GES: No Process, No Multiple

Takeaway: Fashion companies that blame misses on the economy don’t get big multiples. Even with a sell-off, this is a value trap,

This note was originally published March 20, 2013 at 21:31 in Retail

Conclusion: We’re not at all surprised by the big guide-down at Guess (GES), as it’s been on our short list for the better part of a year. We knew this one was overearning, and guidance around margins was like a balloon being held underwater while interim management manufactured earnings sufficient to keep the stock afloat. That said, we wish we’d been louder about this potentially being the quarter where the balloon bursts. The good news is that management has not yet capitulated with its guidance. Earning the lower end of the $1.70-$1.90 guidance is optimistic at best, and if it gets there it will be through cutting costs that arguably should be reallocated to other areas of the business. Our point is that even with the stock trading down, we still like it on the short side. We think GES has 2 to 1 downside/upside.


The way we look at it, the Guess? brand is stalling in all but a few markets, the executive suite has a revolving door (losing 3 key executives in 5 months – two on the same day), and the only real bull case revolves around this being cheap on a more ‘normal’ earnings base of $3+ that it earned over each of the past two years. At $26, we might concur with the ‘cheap’ part, but unfortunately, the premise that GES can ever earn $3 again without significant capital investment (i.e. taking earnings down first) is wishful thinking. Carlos Alberini – the best thing that ever happened to GES -- left for greener pastures (Restoration Hardware) knowing that he was leaving peak earnings power in the dust.


We think that $3 will prove about elusive as Bigfoot, and until then you’re left with an annuity earnings stream of something closer to $1.50-$1.60. What’s a zero-growth earnings stream worth? Whether we use a no-growth retail multiple of 10-12x, or capitalize by a 10% cost of equity (we hate arbitrarily picking cost of equity, but 10% is probably close). Either way a mid-teens stock is not out of the question.


Not only would we argue that it is currently expensive on the real earnings power of the company (16-17x the $1.50 we think GES should earn), but there is literally nothing in place to get the brand momentum moving upward again.


One thing that’s important to consider is that it's 2/3 of GES’ business that is causing the problem – and that’s North America Retail, and Europe. Unfortunately, the company is blaming the economy – again. GES needs to understand – as we do – that investors absolutely have zero tolerance for a management team that does not have a process to drive its business in the face of a downturn in the economy.  Is Ralph Lauren complaining about the economy? No. It’s growing its top and bottom line by driving its brand across product, channel and customer categories in a synchronized way. Guess, on the flip side, is really good at making excuses.   


In the end, we think we’ll need to see new blood in the executive rank at GES who will then need to fight for – and win – the right to reinvest capital into the business to better stratify the brand and build an omnichannel strategy accordingly. We’d definitely put GES in the bottom quartile with its abilities in those areas. Until then, it’s a value-trap in the mid-$20s. We think best case upside is $30 on manufactured earnings upside through misplaced cost cuts. On the downside we think you've got $15 based on math above.  



GES: No Process, No Multiple - gessinga

Mixed Messages

Client Talking Points

Mixed Signals from Asia

Two major markets in Asia went in distinctly different directions overnight. In China, flash PMI for March, an indication of overall manufacturing conditions, strengthened and the Shanghai Composite index remained bullish on TRADE and TREND durations. In South Korea, though, the Kospi is now bearish on TRADE and TREND durations.

Mixed Signals from Europe, Too

In Germany, manufacturing PMI for March slowed to 48.9 from February’s reading of 50.3, but the Dax held its TRADE and TREND support levels. Meanwhile, France’s March PMI plunged, and that snapped our TRADE support level.



Asset Allocation


Top Long Ideas

Company Ticker Sector Duration

Darden stands to be a beneficiary from a housing recovery and an improved employment picture, which boosts casual dining trends. Also, another earnings guide down could lead to management or strategy change, which is bullish for the stock.



HOLX remains one of our favorite longer-term fundamental growth companies given growing penetration of its 3D Tomo platform and high leverage to the 2014 Insurance Expansion from the Affordable Care Act.


With FedEx Express margins at a 30+ year low and 4-7 percentage points behind competitors, the opportunity for effective cost reductions appears significant. FedEx Ground is using its structural advantages to take market share from UPS. FDX competes in a highly consolidated industry with rational pricing. Both the Ground and Express divisions could be separately worth more than FDX’s current market value, in our view.

Three for the Road


“Math is a beautiful thing.” -- @codertrader





“The greatest obstacle to discovery is not ignorance – it is the illusion of knowledge,” – Daniel J. Boorstin


27, the number of points that the Miami Heat trailed the Cleveland Cavaliers last night before storming back and winning their 24th straight game

Stomping Tom

This note was originally published at 8am on March 07, 2013 for Hedgeye subscribers.

“Hello out there, we're on the air, it's 'Hockey Night' tonight.
Tension grows, the whistle blows, and the puck goes down the ice.
The goalie jumps, and the players bump, and the fans all go insane.
Someone roars, "Bobby Scores!" at the good old Hockey Game.”

-Stomping Tom Connors


It is a sad day back in my home country of Canada.  Iconic Canadian singer Stomping Tom Connors passed away from natural causes.  For those that were born south of the 49th parallel, his name is probably not all that familiar, but in Canada his songs are unofficial national anthems.


I know, I know only Canadians would idolize a singer that called himself Stomping and sang about hockey.  To be fair, Connors also sang about more complex topics like potatoes (Bud the Spud) and Saturday evenings in small Canadian outposts (Sudbury Saturday Night).  On some level this simplicity is the beauty of Canada, although one does have to wonder what would be worse – listening to Stomping Tom on repeat for 12 hours or a 12 hour Rand Paul filibuster.


As many of you know, one of Canada’s most significant industries is mining.  Our Industrials Sector Head Jay Van Sciver will be presenting his in-depth view of the global mining and construction sector on March 27th in a black book presentation.  We will circulate the information closer to the date.  The most controversial name in this sector is Caterpillar Tractor (CAT).


A primary reason we are negative on the global mining sector, and CAT in particular, is simply reversion to the mean.  Mining companies have dramatically over spent for the last decade, as highlighted in the Chart of the Day, and as much as some sell side bankers would have you believe otherwise - mining is not a growth industry.  Margins will revert to the mean, spending will revert to the mean, and so too will capital investment.  After all, cyclicals are cyclical.


Switching gears, between Keith and myself, we have been on the road for the better part of the last month from London to San Francisco, and most spots in between.  If there is one consistent theme, it is that most large investors are still very cautious as it relates to equities.  Now I realize this is anecdotal, but it has been a striking observation for us. 


In that vein, as I was reviewing the New Tape (aka Twitter) this morning, I noticed this tweet from Ralph Acampora:


“This is still the “most hated” bull market I have ever seen in my close to 50 years in this business.  This disbelief is very bullish.”


I don’t know enough about Ralph’s history to know whether he has a good record of forecasting stock market direction, but I do think that tweet was apropos and consistent with what we are seeing and hearing.


A key theme underscoring our relatively bullish call on the U.S. economy and U.S. equities has been what we call #HousingsHammer.  In effect, this is the idea that home prices will improve not at a linear pace, but at a parabolic rate.  This was a thesis developed by our Financials Sector Head Josh Steiner and we continued to see support in this week’s Core Logic numbers.


Corelogic released its January home price data Tuesday morning as well as its early look at February 2013. The data was very strong. January 2013 saw home prices rise +9.7% YoY, which was upwardly revised from the preliminary estimate for January one month prior of +7.9%. The preliminary estimate for February is that prices rose +9.7% YoY, unchanged vs. January.


Excluding the distressed segment of the market, the story is more bullish. January prices for the non-distressed market rose +9.0%, which was up materially from the +6.7% increase in December 2012. Interestingly, the early read on February prices shows the non-distressed market up +11.3%, a sequential acceleration of 230 bps. So in two months, the rate of appreciation on non-distressed homes has accelerated 460 bps.  This is what we call a parabolic recovery.


In our models, housing is a critical variable to the U.S. economy because more than 70% of the U.S. economy is driven by consumption.  In a paper last year, Charles Calomiris, Stanley Longhofer, and William Miles found that the wealth effects from housing “vary depending on whether the homeowner is old or young, poor or rich—but their overall estimate is that a dollar of extra housing wealth triggers five to eight cents in additional spending.”


On a high level, the math is compelling in terms of the housing benefit to GDP.  If we assume there are 75 million owned homes in the U.S. and the average price is $175,000, then that is a total housing stock value of $13.1 trillion.   That value of that housing stock would increase by $1.3 trillion if home prices are up 10% this year.  Assuming the midpoint ($0.065) in the study above is accurate, the appreciation in home value at 10% this year will lead to an incremental $85 billion in consumer spending. On a GDP base of $15 trillion this is an incremental tailwind tail wind of 0.6% growth.


Clearly, these are all rough numbers and estimates, but we do feel very good about the fact that the home price appreciation will continue to accelerate and this will be additive to consumer spending.  Given that Bloomberg consensus for 2013 U.S. GDP growth is 1.8%, an additional 0.6% could very well lead to an actual GDP number that “stomps” the consensus estimates.


Our immediate-term Risk Ranges for Gold, Oil (Brent), US Dollar, USD/YEN, UST 10yr Yield, VIX, and the SP500 are now $1559-1589, $109.01-111.98, $81.88-82.66, 91.89-94.69, 1.91-1.97%, 11.91-15.18, and 1519-1551, respectively.


Keep your head up and stick on the ice,


Daryl G. Jones

Director of Research


Stomping Tom - Will MIners stomp capex


Stomping Tom - vp 7

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Independent Minds

“Blows must decide whether they are to be subject to this country or independent.”

-King George III


And they did… the British lost and the Americans won their independence. “Jefferson threw himself into whatever came his way. He was hardheaded, not rhetorical. He believed the hour called for action, not rhetoric.” (John Meacham’s Thomas Jefferson, pg 79)


The founding principles of this country aren’t romantic. They are real. And it started with a fight. People used to stand up for something and really argue for it. Passion and pride wasn’t always politically correct.


As our enemies have found we can reason like men, so now let us show them we can fight like men also.” –Jefferson, 1775


Back to the Global Macro Grind


After 5 long years of war versus the #OldWall, independent minds are winning. This isn’t about being bullish or bearish. It’s about being transparent as opposed to opaque; it’s about being accountable as opposed to arcane.


As Patrick Henry said, “give me liberty, or give me death.” Economic freedom versus hereditary right is an old war. We’re just fighting it on a new front. Revolutions are rarely pretty. This one is no exception.


So upward and onward we go. Today isn’t unlike any other day where, God willing, we all put our feet on the floor at the top of the risk management morning - one shoe on a time - and decide where we think we can be less wrong than right.


This morning’s Global Macro Research and Risk Signals are decidedly mixed – let’s look at Asia first:


A)     China’s flash PMI for MAR accelerates to 51.7 (vs 50.4 FEB); Shanghai Comp holds bullish TRADE/TREND

B)      South Korea is (allegedly) cyber attacked by China, and the KOSPI closes -0.4% (bearish TRADE/TREND)


How about Europe?


A)     German Manufacturing PMI for MAR slows to 48.9 (vs 50.3 FEB); but German DAX holds TRADE/TREND support

B)      France’s Services PMI tanks to 41.9 in MAR (vs 43.7 FEB); French CAC snaps TRADE support (again) of 3864




A)     US Housing Starts ripped another +3% sequentially in FEB, but what will this morning’s Existing Homes print bring?

B)      Housing stocks (ITB) led gainers +2.9% yesterday, making a fresh YTD high as the SP500 closed -0.3% inside of hers


All the while, on the interconnected risk front:

  1. US Dollar Index is having its 6th up week in the last 7
  2. CRB Commodities Index is having its 6th down week in the last 7
  3. Correlation Risk between USD/CRB and USD/SPY continue to diverge, big time

Immediate-term TRADE (inverse correlations) between USD and CRB (Commodities):

  1. USD vs Brent Oil = -0.98
  2. USD vs Copper = -0.95
  3. USD vs Gold = -0.69

Immediate-term TRADE (positive correlations) between USD and Stocks:

  1. USD vs MSCI Asia = +0.71
  2. USD vs SP500 = +0.63
  3. USD vs EuroStoxx600 = -0.16

Oops. That last one wasn’t a positive correlation – a month ago European stocks had a barely positive correlation to the US Dollar; now that’s melting away. Other than how bad it is for a socialized economic zone having its currency debauched by money launderers in Cyprus (and Italian criminals holding other parts of the money bags), I can’t think of any fundamental reason why Europe sucks economically.


And why is the correlation between the US Dollar and Emerging Market (MSCI EM Index) not positive? It’s actually going really negative (-0.70 vs USD on a 60 day correlation basis). Does that make sense? Sure does. That’s why we aren’t long EM. If #StrongDollar continues to crush Commodities, guess who loses? “Emerging Markets” (like Brazil, whose stock market is basically a commodity-linked index).


What about Gold? On a 60-day basis, the inverse correlation to the USD was like it is for Copper and Oil right now (wacky high). But this morning it’s less so. Is that interesting? Sure. What do I do with that? Well, I’ll tell you what I won’t do today – and that’s short Gold. I’d much rather short Oil - not only from a correlation perspective, but because the net long position in Oil (CFTC data) remains much larger.


There are so many things to consider - so many signals and pieces of data to incorporate into our decision making process; so many new technologies and mathematical concepts to apply to our analysis. Embracing The Uncertainty of it all is what makes us different. It allows for freedom of thought – and the humility to change our minds. Long live the independent research revolution.


Our immediate-term Risk Ranges for Gold, Oil (Brent), Copper, US Dollar, USD/YEN, UST 10yr Yield, VIX, and the SP500 are now $1, $107.23-109.26, $3.38-3.51, $82.61-83.31, 94.19-97.02, 1.89-1.97%, 10.73-14.51, and 1, respectively.


Best of luck out there today,



Keith R. McCullough
Chief Executive Officer


Independent Minds - Chart of the Day


Independent Minds - Virtual Portfolio


The Macau Metro Monitor, March 21, 2013




Secretary Tam said that the local gaming industry was developing into an international leisure tourism centre, adding that the industry had already built a solid foundation and created competitive advantages in the leisure-tourism segment so that he was confident that it would not fall behind its rivals elsewhere.  When asked by reporters for his comments on the possible impact on the local gaming industry after it was reported that a newly opened mega-casino in Manila would be paying higher commissions than its local counterparts to attract local junket operators, Tam said it was to be expected that the local gaming industry would have more and more competition from rivals in neighbouring countries and regions.



MGM China’s CEO Grand Bowie says the firm is “unlikely” to invest in the Philippines “at this time” and prefers to stay focused on the construction of its Cotai project.  Referring to the Philippines reportedly wanting to take over as the world’s gaming capital by 2017, Bowie said that more competition is actually good for Macau, but it was more important for the city’s operators to focus on quality service, easier access and catering to the needs of consumers.


Melco Crown (Philippines) Resorts Corp, the Philippines unit of MPEL, plans to raise up to US$400 million (MOP3.2 billion) from a fresh equity offering to fund part of the operator’s investment in its Manila casino.  In a disclosure to the Philippine Stock Exchange, Melco Crown said it planned to raise funds from the sale of up to a billion common shares of the company with an option to upsize by up to 20%, Philippine Daily Inquirer reports.

According to Willy Ocier, vice chairman of Belle Corp., the facility would be operating by "probably June or July, mid-2014," UPI news agency reported, quoting the Philippine Star newspaper.  The report also described the scheme as costing US$1.3 billion, instead of the previously reported US$1 billion.



Impact of Lunar New Year pushed up Macua CPI for February 2013 6.16% YoY or 1.04% MoM.



Early Look

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