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WWW: Another Milestone to $100

Takeaway: 2Q spot-on with our call that this is a $100 stock over 2-yrs. But we need some serious context around some overblown near-term factors.

This note was originally published July 09, 2013 at 13:30 in Retail

WWW's 2Q print was spot-on with what we needed to see to remain confident in our call that this is a $100 stock over 2-years.  We think that the revenue hammer is cocked to add $1bn in sales over three years. This is accentuated by the margin story that reared its head meaningfully in 2Q and will get return on capital moving in the right direction after a 2-year decline.

 

WWW: Another Milestone to $100 - sp99

 

One thing that became abundantly clear to us in listening to the conference call is how bifurcated the perception is on this name. We all know that Wall Street is naturally short-sighted, but easily 80% of the time on this marathon 80-minute call was allocated to near-term puts and takes that have no real bearing on what we think is relevant to the appropriate money-making thesis.

 

There were two factors in particular that were a big focus (and shouldn’t be). 1) The lack of guidance, and 2) Commentary around accretion of the PLG brands.

    1. WWW bowed out of the quarterly earnings game, and simply reaffirmed an annual revenue range while upping annual EPS guidance by a dime after a $0.13 EPS beat Q2. Combined with unidentified/unauditable expenses that were supposedly pushed out, and unquantified revenue that was pulled forward, WWW succeeded in spooking the Street into keeping back half estimates low.  We're at $2.86 vs. a consensus range for the year between $2.60-$2.75.
       
    2. PLG Accretion. Here's one where we've got to call a spade a spade. Either the company's forecast accuracy as it relates to acquisition accretion is simply horrendous, or they've artfully sandbagged the Street's expectations on a consistent basis. Consider the progression of expected accretion/dilution vs. actual results. Going into the year, WWW guided to Modest Accretion in 1Q, Slight Dilution in 2Q, and $0.35-$0.50 per share in accretion for the year. It ended up earning $0.34ps and $0.24ps in 1Q and 2Q, respectively, from PLG, or $0.58 combined. Now, even though at the beginning of the year it called for accretion in both 3Q and 4Q, it is taking down expectations for zero back half accretion.  Perhaps we'll fall victim to thinking there's a sandbag when one does not exist, but given the momentum of Sperry and Keds, we find it very difficult to get to a loss in 2H.

       

The near-term factor that mattered most, in our opinion, was the fact that the Performance division went from +8% in 1Q to -4.8% in 2Q. Simply put, Merrell, WWW's largest division, tanked.  We can talk all day about how a product like M-Connect is up double digits, but the reality is that Merrell has a huge division called Outdoor Lifestyle that sells the non-performance product in the portfolio.  We think that it was ignored immediately following the PLG acquisition, which is less than optimal given that it accounts for about 40% of the Merrell portfolio.  The good news is that the company made organizational changes over the past 3-6 months, and the order backlog for the brand in aggregate turned up to the point where management noted that it can grow low single digits for the year. We have no reason to believe that they're lying about order levels, and the channel is lean enough that we don't forsee outsized cancellation levels. In other words, we're going to give them the benefit of the doubt on this one.

 

Even better is that the full benefit of the Merrell reorganization will be seen at the beginning of 2014, which is also when we start to see a greater impact from the company scaling Sperry and Keds over the existing International infrastructure.  From a timing perspective, this is when we think people will really start to realize that WWW is much growthier than they otherwise think.

 

 

 

OUR THESIS

The Street is grossly underestimating the revenue growth opportunity as the legacy WWW scales its recently acquired brands over its global infrastructure.  We think WWW can and will add $1bn in sales to its $2.7bn base over 3-years. Under its former owner, Sperry, Keds, Saucony and Stride-Rite only generated 5% of its sales outside of the US, and most of that was in Mexico and Canada. Legacy WWW, on the other hand, is the most global footwear company in the world (yes, even more so than NKE and AdiBok), with 65% of units sold outside the US through an elaborate network of seamlessly-integrated third-party distributors. Given that the infrastructure is already in place, the incremental sales should be brought on close to a 20% incremental margin, versus 8% margin today. Similarly, minimal capital is needed on the balance sheet to grow these brands, making the growth trajectory over the next 3-5 years very ROIC accretive. The stock might look expensive at 20x earnings and 12x cash flow, but the street’s numbers are low by an incremental 10% per year. We're at $5.75 to the Street's $4.25 three years out.  We’d buy aggressively on a pullback, but are not so sure that will happen. We think WWW is a double over 2-3 years.

 

 

WWW: Another Milestone to $100 - mcg1

 

WWW PROFITABILLITY  ROADMAP (Components of RNOA)

WWW: Another Milestone to $100 - 2

 

 

 

 

 


THE SEC & TRADING SUSPENSIONS

Takeaway: The SEC has issued a bulletin explaining Trading Suspensions. Here’s a quick takeaway.

The SEC has issued a bulletin explaining Trading Suspensions, available in full here.  Here’s a quick takeaway.

 

THE SEC & TRADING SUSPENSIONS - se44

Why Suspend Trading?

 

The SEC has the authority to suspend trading in any stock for up to ten business days for investor protection purposes.  The SEC typically suspends trading in a stock where there is:

  • A lack of information, such as a company that has failed to make required filings,
  • Questions about the accuracy of information in regulatory filings, press releases and other public information, or
  • Questions about trading in the stock, including possible insider trading or market manipulation.

What Happens Next?

 

The expiration of the ten-day suspension is generally not the end of trouble for a company’s shareholders.  There is frequently an ongoing investigation into either the company, or into certain holders or traders of the shares, or into brokerage firms that promote or trade the stock.  SEC practice prohibits discussing ongoing investigations, and unless there is a formal investigation, with a notification to the subject entities (see last week’s Hedgeye Investing Ideas for the Investing Term: SEC Inquiry) so shareholders may never find out about the investigation until after its results are announced – if at all.

 

Brokers who wish to trade in the shares for their customers must go through a post-suspension process including an internal compliance review, updated due diligence on the company, and often a regulatory filing through FINRA, the brokerage industry self-regulatory body.  Since this filing alerts FINRA that you intend to actively market the now-tainted shares, it is often the equivalent of an engraved invitation for a FINRA letter of inquiry, and perhaps an audit of the firm.  This goes a long way towards answering the next question in the SEC’s Bulletin:

 

If the suspended stock resumes trading, why is it trading at a lower price?

 

Aside from the taint in the mind of the investing public, brokerage firms are reluctant to put their name alongside that of a stock if they believe there may be a regulatory investigation underway.  As we have seen in recent years, fraud investigations often go beyond the civil parameters available to the SEC.  No broker wants to put his customers into the stock of a company that might be raided by the FBI.

 

What About Shareholders?

 

The SEC is sensitive to the reality that current shareholders of a company will be harmed by a trading suspension.  While the suspension is in force, they will not have access to their assets – they can’t liquidate their stock.  After the suspension expires, the shares will likely trade at a fraction of the price at which they were bought, and trading is likely to be highly illiquid.  The Commission suspends trading only when there is a palpable concern that investors may be making decisions based on incomplete, inaccurate, or deliberately misleading information, or where there is a concern about fraud, or other investor protection concerns that, in the Commission’s estimation, are more compelling going forward than the potential damage to existing shareholders.


Note that a Trading Suspension is not the same as a Trading Halt – which the exchanges impose when there is an order imbalance in a stock during the trading day.  Halts can be imposed by the exchanges, or at the request of a company if they are about to release news that management considers likely to have a significant impact on the price of their stock. 

 

News issued in the middle of the trading day can cause pandemonium among shareholders and traders.  Unexpected good news – a takeover bid, for example – can cause a feeding frenzy, while unexpected bad news – oops, the merger didn’t go through after all – can cause panic selling.  A trading halt can’t prevent outsized moves in the price of a stock, but it dampens volatility and permits market makers to match up orders in a more orderly process. 

 

Conclusion:


Give the SEC credit for trying to educate the individual investor.  The more of these releases you read, the better sense you will have of what regulation can, and can not accomplish.  If you don’t know what a Trading Suspension is, you should read the SEC release.  The Commission thought it important enough that they posted it on Twitter. 

 

In our experience, suspensions generally happen in the stocks of more speculative companies, often stocks you may have bought on a hot tip, or perhaps off a tout sheet from “HOTT STOXX!” that mysteriously appeared in your email in-box.  By the time the Commission gets around to suspending trading, the company has probably already done lasting damage to your net worth.  People who believe they know which highly speculative stocks are safe to invest in – and that they will be the only ones who know when to get out – remind us of kids who practice jumping out of the way of a speeding locomotive: isn’t it smarter not to play on the tracks in the first place?


Morning Reads on Our Radar Screen

Takeaway: A quick look at some stories on Hedgeye's radar screen.

Keith McCullough – CEO

China reports weaker than expected trade data (via BBC)

Hockey Hall of Fame class announced (via ESPN)

Thailand Holds Rate as Baht Retreat Reduces Pressure to Ease (via Bloomberg)

 

Morning Reads on Our Radar Screen - earth2

 

Howard Penney – Restaurants

The Periodic Table of McDonald's (via BBW)

Wendy's Pretzel Bacon Cheeseburger Almost-Not-Quite Pretzel-y, Bacon-y (via Houston Times)

Coffee shops look to oust 'laptop hobos' (via MSN Money)

 

Josh Steiner - Financials

Consumer Bureau to Sanction Banks Over Collection Methods (via Bloomberg)

Fairholme Fund to file suits, geared to protect rights of Fannie Mae and Freddie Mac preferred shareholders (via Miami Herald)

 

Matt Hedrick – Macro

Spain's Mariano Rajoy 'implicated after publication of slush fund documents' (via The Telegraph)

 

Tom Tobin – Healthcare

Mergers not just among public hospitals Saint Vincent, Highmark deal now in effect (via GoErie)


Hedgeye Statistics

The total percentage of successful long and short trading signals since the inception of Real-Time Alerts in August of 2008.

  • LONG SIGNALS 80.64%
  • SHORT SIGNALS 78.61%

Ripples From China

Client Talking Points

CHINA

Chinese exports were horrendous at -3.1% year-over-year in June. But don’t worry - Western style bailout begging is all over the tape. You want to buy China exposure on that? We don’t think there’s anything remotely close to Bernanke/Draghi style “stimulation” coming. Despite the Hang Seng’s positive +1% move into the close, it remains bearish TREND. For that matter, so does every other Asian Equity market with the exception of Japan.

DAX

Go ahead and ask German exporters if they care about negative year-over-year Chinese import demand. The DAX failed right at our TREND resistance of 8062. Meanwhile, the rest of European Equity markets with the exception of the FTSE all remain bearish TREND in our model. Greece? Still crashing big, down another -2.1%. It's down a whopping -29% since May 20. Troika that.

OIL

Brent Oil is back above our TAIL risk line of $108 and change this morning. That is easily the biggest threat to what has been solid US consumption aka #GrowthAccelerating for the last six months. Incidentally, oil is now back in the black year-to-date. We are watching this level very closely as it has serious implications.

Asset Allocation

CASH 57% US EQUITIES 18%
INTL EQUITIES 0% COMMODITIES 0%
FIXED INCOME 0% INTL CURRENCIES 25%

Top Long Ideas

Company Ticker Sector Duration
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. We think that the prevailing bearish view is very backward looking and leaves out a big piece of the WWW story, which is that integration of these brands into the WWW portfolio will allow the former PLG group to achieve what it could not under its former owner (most notably – international growth, and leverage a more diverse selling infrastructure in the US). Furthermore it will grow without needing to add the capital we’d otherwise expect as a stand-alone company – especially given WWW’s consolidation from four divisions into three -- which improves asset turns and financial returns.

MPEL

Gaming, Leisure & Lodging sector head Todd Jordan says Melco International Entertainment stands to benefit from a major new European casino rollout.  An MPEL controlling entity, Melco International Development, is eyeing participation in a US$1 billion gaming project in Barcelona.  The new project, to be called “BCN World,” will start with a single resort with 1,100 hotel beds, a casino, and a theater.  Longer term, the objective is for BCN World to have six resorts.  The first property is scheduled to open for business in 2016. 

HCA

Health Care sector head Tom Tobin has identified a number of tailwinds in the near and longer term that act as tailwinds to the hospital industry, and HCA in particular. This includes: Utilization, Maternity Trends as well as Pent-Up Demand and Acuity. The demographic shift towards more health care – driven by a gradually improving economy, improving employment trends, and accelerating new household formation and births – is a meaningful Macro factor and likely to lead to improving revenue and volume trends moving forward.  Near-term market mayhem should not hamper this  trend, even if it means slightly higher borrowing costs for hospitals down the road. 

Three for the Road

TWEET OF THE DAY

Fundamentally, with Chinese #GrowthSlowing and Oil rising – not a good day to be buying US stocks

@KeithMcCullough

QUOTE OF THE DAY

"It is not the strongest of the species that survive, nor the most intelligent, but the one most responsive to change" - Charles Darwin

STAT OF THE DAY

21%: The amount the yen has weakened against the dollar since Oct. 31, when Japanese Prime Minister Shinzo Abe started his campaign to lower the currency in an attempt to spur Japan. (Bloomberg)


July 10, 2013

July 10, 2013 - DTR

 

BULLISH TRENDS

July 10, 2013 - 10yr

July 10, 2013 - spx

July 10, 2013 - nik

July 10, 2013 - dxy

July 10, 2013 - oil

 

BEARISH TRENDS

July 10, 2013 - dax

July 10, 2013 - VIX

July 10, 2013 - euro

July 10, 2013 - yen

July 10, 2013 - natgas

July 10, 2013 - gold

July 10, 2013 - copper


Uncertain China

This note was originally published at 8am on June 26, 2013 for Hedgeye subscribers.

“Nothing is certain but the unforeseen.”

-J.A. Froude

 

No stranger to intellectual debate, British author James Anthony Froude (1818-1894) was well-known for stirring the pot – perhaps even more so than @HedgeyeDJ (Daryl Jones, our no-holds-barred DoR) and @HedgeyeENERGY (Kevin Kaiser, our oft-controversial senior energy analyst).

 

Froude’s generally polemic works were often met with fierce debate and rejection among the British intellectual elite – perhaps none more so than his seminal work The Nemesis of Faith (1849), which was carefully crafted to call into question blind acceptance of the popular Christian doctrine of the time. Widespread public backlash in response to the novel ultimately cost Froude his fellowship at Oxford University.

 

Eventually Froude’s avoidance of institutionalized groupthink won out. Froude and his wildly contentious ideas ultimately found a permanent home when he was appointed Regius Professor of Modern History at Oxford (i.e. a really big deal) in 1892 – the very institution he was driven away from nearly a half-century prior.  During his regrettably brief stint at Oxford (he died in 1894), Froude quickly earned a reputation for being among the most popular lecturers of his time.

 

If nothing else, Froude’s journey from the top to the bottom and back again is a lesson for analysts young and old to avoid the safety and comfort of groupthink. Never is this advice more important than when a time-tested, comprehensive and repeatable research process leads one to hold a counter-consensus view. Hold the LINE [short], Kaiser!

 

Back to the Global Macro Grind

 

Incorporating another one of Froude’s lessons, we call attention to the aforementioned quote in the context of China’s banking system woes – which, thanks to the recent spate of legacy media coverage, are now as obviously present as a 6’3”, 325lb left tackle in one of Froude’s 19th century lectures.

 

Specifically, anyone even tangentially following recent press will arrive at the conclusion that a growing consensus among analysts across both the buy and sell sides believes with a fair amount of certainty that China’s credit binge and alleged housing bubble are sure to cause a Western-style financial crisis.

 

We aren’t so sure. With less than 2% of all financial assets held by foreigners, strict capital controls have, thus far, prevented a mass exodus of liquidity through the capital account. Domestically speaking, the PBoC’s own words from yesterday should douse any hopes of a crisis:

 

“Financial institutions’ cash reserves stood at about 1.5 trillion yuan ($244 billion) as of June 21, compared with the 600 billion yuan or 700 billion yuan sufficient under normal circumstances to cover payment and clearing needs. The present liquidity is not insufficient.”

 

Indeed, by comparing China’s present-day banking woes to the early tremors of Bears Sterns or juxtaposing China’s property market – rife with “ghost cities” – with our own pre-crisis froth, consensus has undeniably fallen victim to the availability heuristic. We don’t think that’s a prudent call to make at the current juncture; the Chinese sovereign has the resources, political will and mobility to prevent any Western-style financial crisis.

 

We’ve become a broken record on this, but it’s critical to remember that China’s present day economic woes are actually a function of very deliberate macroprudential policies. While highly unlikely, at any given time, Chinese officials can reverse course and keep the credit bubble inflating longer than any of us short-sellers can remain solvent.

 

On the contrary [to consensus], we think the outlook for China’s banking sector is likely to resemble that of a slow bleed, rather than sudden cardiac death. We’ve published a ton of work recently backing our conclusions with detailed analyses, but for those of you who weren’t able to tune in until now, we’ll take this opportunity to rehash our views:

  • Alas, it remains our view that the headwinds facing China’s banking system are structural (i.e. NOT cyclical) in nature.

Please email us if you’re interested in reviewing the full compendium presentation materials and research notes backing these conclusions, and we’ll get them right over to you. We also have a list of ancillary securities and asset classes to underweight/sell/short if you’re interested in those as well.

 

At any rate, we urge you to embrace the uncertainty of this situation by running full speed away from anyone who tells you they know how this all ends.

 

In fact, the only certainly anyone can promise you regarding these risks is that the outcome is presently unforeseen and, quite possibly, hidden deep within the “shadows” of China’s financial sector.

 

Our immediate-term TRADE Risk Ranges are now (TREND bullish or bearish in brackets):

 

UST 10yr Yield 2.35-2.69% (bullish)

SPX 1560-1614 (bearish)

DAX 7619-8108 (bearish)

Nikkei 12,406-13,449 (bearish)

 

VIX 16.59-20.98 (bullish)

USD 82.21-83.39 (bullish)

Euro 1.30-1.32 (neutral)

Yen 96.25-99.17 (bearish)

 

Oil 99.18-103.39 (bearish)

NatGas 3.64-3.82 (bearish)

Gold 1226-1324 (bearish)

Copper 2.98-3.12 (bearish)

 

Keep your head on a swivel,

DD

 

Darius Dale

Senior Analyst

 

Uncertain China - Chart of the Day

 

Uncertain China - Virtual Portfolio


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