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Trade of the Day: EPU

Takeaway: Keith covered his short today of EPU, an ETF that tracks the Peru stock market.

Keith covered his short today of EPU, an ETF that tracks the Peru stock market.

 

Keith covered his short of EPU at 3:28pm at $40.36, booking a nice gain for his efforts. EPU is the iShares MSCI All Peru Capped Index Fund.

 

Keith writes of his trade, “Short commodity-linked countries; Buy consumption - risk manage the range - rinse and repeat.”

 

Peru produces more silver than any country in the world, and also is a major gold producer.

 

Trade of the Day: EPU - epu


IS EVEP STILL A SHORT?

Takeaway: Here's our assessment of EV Energy Partners (EVEP), following the company's earnings report last Friday.

This note was originally published May 10, 2013 at 13:09 in Energy

EV Energy Partners (EVEP) remains a high conviction short idea for us.  Today’s result changes little, except for that it seems as if we gave the Company too much value for its Utica package, and EVEP’s funding situation is now even more precarious given that it will JV the oil window acreage instead of sell it outright.  We would be adding to short positions today on the back of the poor 1Q13 result and outlook.


On the Quarter


Open EBITDA (before hedges) was $31.4MM, down from $36.7MM in 4Q12 due to a 1% decline in production and higher operating costs.  Excluding a 1Q-only G&A expense of $3.2MM, open EBITDA was $34.6MM (this is not a one-time item, but a recurring 1Q-only item).

 

On EVEP’s management metrics – which are pretty meaningless to us even though everyone else uses them – “adjusted EBITDA” was $48.5MM vs. $56.7MM expected and $69.6MM in 4Q12.  “Distributable cash flow (DCF)” was $21.8MM ($0.51/unit) vs. $37.9MM ($0.89/unit) in 4Q12, for a distribution coverage ratio of 0.67.

 

The main reason for the miss was the hedge book rolling off, especially on the NGL side.  Realized cash gains from commodity derivatives were $12.3MM vs. $28.4MM in 4Q12.

 

Discounted cash flow (DCF) would have been lower had it not been for the generous (and inexplicable)  approximately $5MM haircut to “maintenance CapEx” in the quarter.  Production fell 1% q/q and EVEP invested $21.1MM into its E&P operations in the quarter, though deducted only $13.6MM ($0.91/Mcfe) of maintenance CapEx from DCF vs. a consistent run-rate of $18 - $19MM ($1.25/Mcfe) over the prior four quarters.   

 

EVEP defines maintenance CapEx as “expenditures necessary to maintain the production of our oil and gas properties over the long term.”  But, EVEP could not manage to keep production flat on $21.1MM of total E&P spending.  In our view, EVEP slashed maintenance CapEx this quarter to make the already poor coverage ratio look a little better, and that a realistic maintenance CapEx number is  approximately $20MM per quarter.  If maintenance capex were $20MM in 1Q13, the coverage ratio would have been 0.47.

 

IS EVEP STILL A SHORT? - evep1

 

On the Utica Shale Sale Process


EVEP is no longer looking to sell its acreage in the oil window of the play, which it once boasted would fetch more than $15,000/acre.  It will now attempt to find a joint venture partner for the majority (~82%) of its marketed acreage, which is in the oil window.  If any deal gets done, it will likely be for a drilling carry (and maybe a small cash bonus); we won’t be holding our breath – CEO John Walker said on the call,

 

“There are not enough wells drilled there yet and through one or more joint ventures we intend to find the completion technique that will solve this problem. It could take one to two years for us to find these solutions and maximize the value of our position in the supply.”

 

That leaves EVEP with 18,200 net acres (18% of marketed acreage) to sell in the wet gas window (majority in NW Carroll county).  Timing and price remains uncertain.

 

On Valuation

 

EVEP is still trading above a price that would reflect anything close to the intrinsic value of the assets.  We’ve updated our NAV analysis taking into account the change in plans for the Utica acreage, the decrease in FV of the hedge book, and the increase in net debt.  Our NAV is $22/unit.

 

IS EVEP STILL A SHORT? - evep2

 

On conventional E&P valuation metrics, the story is the same: EVEP trades at 40x 2013e earnings, 16x Adjusted EV/2013e Open EBITDA, 1.9x book value (despite having acquired the majority of its assets), and 3.1x standardized measure.  The Company is over-levered with net debt of $925MM exceeding the value of its proven reserves (YE12 PV-10 $867MM), and adjusted net debt/2013 open EBITDA at 5.0x.  Leverage ratios will tick higher this year without meaningful asset sales or equity-funded acquisitions as the Company invests heavily in its nascent midstream businesses.

 

IS EVEP STILL A SHORT? - evep3

 


Commodity Deflation: Copper

Takeaway: Copper is taking its turn as the latest commodity price to go lower.

Commodity deflation is taking turns, and Copper is tagged as "it" on the downside, writes Keith this morning. Keith, as usual, is keeping a close eye on all commodity prices, but noted specifically the decline in Copper this morning.

 

With the US Dollar intermediate-term TREND overbought here, Keith says commodities prices can be a bit whippy, but that the overall TREND in commodities prices, like copper, remains decidedly bearish. 

 

Here's a three-month chart of Copper.

 

Commodity Deflation: Copper - copper 051413


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MCD MENU "INNOVATION"

A revival of trends in the U.S. is a key pillar of the bull case on MCD. In light of the “menu innovation” year-to-date, we feel confident standing by our bear case.

 

A few months ago we wrote that McDonald’s was going to abandon its Angus burger and now we read that a new line of quarter pounders is replacing the product in an effort to deliver the top-line growth needed to meet expectations.

 

 

Bull Case Crumbling

 

One bullish analyst on the Street has suggested that the company needs a “hero-like lifting” from U.S. consumers as the global macro picture looks mixed.  The expectations that comps will reflate seems stretched, given our view on MCD’s pricing flexibility, and we expect U.S. comps to fall short of the level needed to carry the stock higher. We believe the most likely outcome is that the fundamentals of McDonald’s business continue to suggest a lowering of EPS expectations for 2013.

 

MCD MENU "INNOVATION" - mcd global sss

 

 

Innovation?

 

The recent news that McDonald's is adding to its Quarter Pounder line up has spurred a lot of dialogue among the investment community. These additions are not quite as striking as past innovations but are unusual in that they fall on a generally stable part of the McDonald's menu. Greg Watson, McDonald’s USA SVP-Menu Innovation Team said, “we haven’t touched the Quarter Pounder since its inception 40 years ago. We think this is a great way to bring new news to the brand.”

 

Six months ago, the question on investors’ minds was, “what menu innovation will MCD push through to grow the top line?” Now, we know: premium wraps and a new line of quarter pounders. In light of this, we remain confident in our bearish thesis.

 

From late May or early June, there will be three new Quarter Pounder varieties offered at McDonald’s with national advertising starting in mid-June.

  1. MCD is going to take most popular condiments from the Angus line and put them on the Quarter Pounder brand
  2. The company is creating a third new flavor—Habanero Ranch with white Cheddar, bacon, lettuce, tomato, and habanero ranch sauce tested
  3. The new quarter pounders will be served on bakery-style buns

 

What Does the Failure of The Angus Burger Tell Us?

 

It is difficult to know why the offering failed. It could have been too expensive for the McDonald’s customer or the construct of the burger may have been unpopular. If either of these speculations is true, it could suggest that the new quarter pounder offerings – drawing from the Angus ingredients – are unlikely to resonate or, if pricing was the issue, that McDonald’s has limited pricing flexibility. Neither scenario would be positive for shareholders.

 

The early August release of July sales will be the day when we gain the most significant insight into the effectiveness of this year’s menu changes.  We continue to believe that the Street’s numbers are too high.

 

 

Howard Penney

Managing Director

 

Rory Green

Senior Analyst


US Economy: April Better Than March?

Takeaway: Here's a close look at the strength of key April economic data compare to data from March.

This note was originally published May 13, 2013 at 14:03 in Macro

 

TRADE vs. TREND:  In contrast to the general deceleration observed in March, on balance, the April Macro data to date is registering sequential improvement and agreeing with the TREND in the domestic economic data which has been one of discrete acceleration since November.  

 

As we have highlighted, with the consumer related data (housing, labor, confidence, consumption, commodity deflation) remaining strong, we have been inclined to stick with the TREND view as it relates to asset class positioning and targeted exposure in domestic, consumer facing equities.  We show the month-on-month (TRADE) as well as the quarter-on-quarter and year-on-year (TREND) changes in the table below.

 

April:  The bulk of the reported consumer, housing, confidence and inflation data continued to come-in positive in April. And while the ISM New Orders, Backlog and Current Production components all improved sequentially with the latest reading, the regional manufacturing data slowed further in aggregate. On the balance sheet side of the consumer, given the strong purchase application and pending home sales figures, we expect the April Housing data to remain strong.      

 

Retail Sales:  This morning's data showed U.S. Retail Sales growth accelerating sequentially across the various index aggregates. Total Retail and Food Service Sales accelerated to +0.1% m/m in April vs a revised -0.5% in March.  On a year-over-year basis, growth in Total Retail Sales and Retail Sales less Food and Auto accelerated 70 bps and 60 bps sequentially, respectively.  

 

On the tax refund front, the latest treasury data (5/9/13) shows individual income tax refunds are currently lagging last years total by  approximately $8.8 billion. In addition to higher refund totals stemming from higher nominal tax receipts in Fiscal Year 2012, we expect the remaining delta due to tax refund processing delays to resolve positively over the balance of the month.

 

US Economy: April Better Than March? - U.S. Eco Summary Table 051313

 


JGB Yields Rise, Copper Prices Fall

Client Talking Points

JGB, Yeah You Know Me

Japanese Government Bonds (JGBs) yields rose ten basis points overnight, have risen 23 basis points in the past month and jumped above Keith’s long-term TAIL risk line of 0.84%. Is this a real move or just a head fake? Keith says he’ll let the market tell him what to do but says that the complacency around JGB or US Treasury yields not breaking to the upside is surreal.

 

The Doctor Is Out

Copper prices fell 1.6%, yet more evidence of commodity prices falling. Doctor Copper remains firmly bearish on a TREND basis though it is oversold at $1421 on a TRADE duration. A stronger US dollar and weaker commodities prices benefit the US consumer.

Asset Allocation

CASH 36% US EQUITIES 18%
INTL EQUITIES 18% COMMODITIES 0%
FIXED INCOME 0% INTL CURRENCIES 28%

Top Long Ideas

Company Ticker Sector Duration
IGT

Decent earnings visibility, stabilized market share, and aggressive share repurchases should keep a floor on the stock.  Near-term earnings, potentially big orders from Oregon and South Dakota, and news of proliferating gaming domestically could provide near term catalysts for a stock that trades at only 11x EPS.  We believe that multiple is unsustainably low – and management likely agrees given the buyback – for a company with the balance sheet and strong cash flow as IGT.  Given private equity’s interest in WMS (they lost out to SGMS) – a company similar to IGT that unlike IGT generates little free cash – we wouldn’t rule out a privatizing transaction to realize the inherent value in this company.  

WWW

WWW is one of the best managed and most consistent companies in retail. We’re rarely fans of acquisitions, but the recent addition of Sperry, Saucony, Keds and Stride Rite (known as PLG) gives WWW a multi-year platform from which to grow.  

FDX

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

TWEET OF THE DAY

“If it weren’t for the last minute, nothing would get done.” -- @Parksani

 

QUOTE OF THE DAY

“It’s not that I’m smart, it’s just that I stay with problems longer.” – Albert Einstein

STAT OF THE DAY

92.1, the latest reading on the NFIB Small Business Index, which rose 2.6 points in April


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