DPS Hoping For a Better 2H

DPS cited unseasonably cold and wet weather, a cautious consumer, and continued carbonated soft drink (CSD) category headwinds as the major factors influencing uninspiring Q2 results. DPS’s hope going into the back half of the year is improved weather, lesser commodity costs (especially with better visibility on lower apple costs in 2H), and the tailwind of lapping easier volume comps in Q3.


Our quantitative set-up for DPS shows -4.1% of downside from its current price to its intermediate term TREND line of support, with topside immediate term TRADE resistance at $47.66. We believe that the stock may benefit from weather and easier comps in 2H, but are not compelled by the lack of quality in its results. We’d opportunistically trade around DPS.


DPS Hoping For a Better 2H - vv. dp


Our concern is not a new one and remains grounded in the fact that DPS’s portfolio is ~ 80% CSD, a category that has seen less interest given health and wellness trends as consumers switch to both healthier carbonated and non-carbonated offerings versus traditional carbonated soda. DPS’s answer is DP 10, its newest offering that should have full distribution by the end of the summer. DPS says that the 10 calorie drink with a full taste profile (note: the lack of a full taste profile is often the complaint of diet drinkers) stands to address the health and wellness market. That said, the diet category across the industry is seeing declines, so it’s yet to be seen just how well DP 10 may be positioned and/or the cannibalization impact to its Diet DP product.   


Results: on the quarter, EPS met consensus at $0.84 (versus $0.85 last year) and revenue fell short of expectations at $1.61B vs the Street at $1.65B, or -0.6% year-over-year, and volume declined 4%. On the year, DPS reaffirmed its FY EPS guidance of $3.04-3.12, forecasts revenue up 2% (versus 3% previously), said it expects $375-400MM worth of common stock to be repurchased in 2013 (back-half loaded), and expects COGS (packaging and ingredients) to be up 1.5% (versus 2% previously).


Matthew Hedrick

Senior Analyst


We remain bullish on Starbucks at current levels.


Despite the stock trading at the high end of its historical consensus forward earnings and cash flow multiples, we believe there is more upside in store.  The bullish factors we are focused on include rapid unit growth in China, expansion into new segments of the global food and beverage industry and a commodity tailwind that appears to be getting stronger.


There is still significant leverage in the SBUX business model.  In 3Q13, SBUX is estimated to report 23.3% EPS growth ($0.53) on 12.9% revenue growth.  In 2Q13, the company reported 27.5% EPS growth ($0.48) on 11.3% revenue growth.


One of the biggest risks to SBUX is sentiment, as SBUX is currently the highest ranked stock in the Hedgeye Sentiment Monitor.  In 2Q13 SBUX raised its full-year EPS guidance to a range of $2.12 to $2.18.  With sentiment high and expectations likely baked into estimates, it is difficult to envision a significant upside surprise in 3Q13 earnings.


Short-term trades are difficult to call from a fundamental perspective, but the bullish long-term TAIL remains the best play in the restaurant space.  



Sales Trends

Same-store sales are estimated to be 6.1%, -0.5% and 9.2% in the Americas, EMEA and China, respectively.  All regions, barring EMEA, are expected to have slowed on a 2-year basis. 


We suspect that the EMEA region will report a same-store sales number down 2-3% and will be one of the biggest disappointments of the quarter.


China is comparing against a significantly easier comparison (12%) in 3Q13 versus 2Q13 (18%).  Having no edge on what the sales trends look like in China, we would suspect that there is risk to the downside due to the current macro fundamentals in China.


Consensus expectations for same-store sales in the Americas are at 6.1%, which would be a slight sequential improvement over the 6.0% reported in 2Q13.  However, this would suggest the 2-year trend is slowing sequentially, by 40bps, to 6.6%.  All told, Starbucks’ Americas business is one of the best positioned chains in the restaurant industry. 


HEDGEYE – There are a number of initiatives under way that could drive additional traffic and check (technology, food and juice) and allow for above average sales momentum for the immediate-term. 








Operating margins improved 180bps in 2Q13 and the expectations are for them to improve another 120bps in 3Q13.  We suspect that the Americas will be the biggest driver of margin improvement, with operating leverage provided by the scale and synergies among digital, card, loyalty, mobile and social platforms.


HEDGEYE – We believe that the coffee tailwind will benefit SBUX for the next two fiscal years.





Food Cost Trends

The coffee tailwind is only three quarters old and we have no reason to believe SBUX will face any significant margin pressure from other commodities.


HEDGEYE – We suspect SBUX will realize a multiple year benefit from a decline in food costs.





Store Operating Expenses

SBUX continues to leverage the store operating expense line.  Strong top line momentum, in addition to an intense focus on store operations (labor and waste utilities management), is giving the company significant leverage on this line.


HEDGEYE – While nothing lasts forever, we believe that the strong traffic trends in the U.S. indicate that the customer experience remains very positive.






Highlighted in the chart below, 77.4% of analysts rate SBUX a Buy, 19.4% rate SBUX a Hold, and 3.2% rate SBUX a Sell.  Sell-side sentiment regarding the stock remains very high.  Further, short interest in the stock is only 1.18% of the float.


HEDGEYE – Sentiment is high, but where else can you turn to for global growth in the restaurant space?






At 15.0x EV/EBITDA SBUX is trading significantly above its QSR peer group trading at 12.4x EV/EBITDA.  With YUM’s ongoing issues and MCD facing a secular downturn, it is not surprising that SBUX is trading at a premium multiple to both companies. 


HEDGEYE – We suspect there could be a correction in valuation.  However, the most important question remains: How much upside is there to EPS?







Howard Penney

Managing Director


Morning Reads on Our Radar Screen

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

Keith McCullough – CEO

New home sales hit five-year high, prices soar (via Reuters)

Criminal Indictment Is Expected for SAC Capital Advisors (via DealB%K)

What does it take to be wealthy? $5 million (via CNNMoney)

Clashes in Mexico's Michoacan state leave 22 dead (via BBC)


Morning Reads on Our Radar Screen - bullbear


Jay Van Sciver – Industrials

CATastrophe: Why Caterpillar, Inc. is a Strong Sell (via thelongshorttrader)

Caterpillar cuts outlook on lower sales, plans more cost cuts (via Reuters)


Daryl Jones – Macro

Jim Cramer's TheStreet Facing Hostile Takeover by Spear Point (via Benzinga)


Tom Tobin – Healthcare

Fewer Hospitals May Lead to Higher Prices (via Time)


Josh Steiner – Financials

Nasdaq Profits Fall, Missing Estimates; Declares Dividend (NDAQ) (via


Howard Penney – Restaurants

Panera cuts 2013 view after restaurant sales miss target (via Reuters)


Brian McGough – Retail

Iconix 2Q profit up, lifts 2013 profit outlook (via AP)

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PCAR: 2H Buying Opportunity Coming?



Given the risks inherent in the Hours-of-Service (HOS) regulations, the Euro 6 pre-buy and higher a share price relative to our fair value range, we do not expect PCAR to continue to outperform in 2H 2013.  PCAR is one of the best large U.S. industrial franchises and we would like to re-enter lower.  The HOS regulations and Euro 6 emissions standards may yet let us do so.


Key Items


Euro 6 Pre-buy:  To us, PCAR’s quarter looked fairly dependent on the Euro 6 pre-buy.  The effect of Euro 6 is hard to estimate - even though it was downplayed on the call.  Sales in Europe would probably not have been up (while those in the US and Canada were down) without it.  That pre-buy will probably reverse in 2014, with orders leading by year-end.


Industry Not Great Into HOS:  As we have written before, the industry backlog to build ratio (and other metrics) are not all that strong into the new HOS regulations.  These regulations will almost certainly exacerbate the driver shortage and negatively impact truck sales.


PCAR Strategy:  We would look to exit PCAR around here (it’s at the high end of our base case valuation range less special dividend, for example).  We suspect that Europe orders will look weak into 2014 with Euro 6 pending.   We also suspect that 2H 2013 US orders will look weak post hours-of-service.  We do not think that investors are compensated valuation-wise for taking those risks at current levels.  If PCAR gets clobbered on HOS, Euro 6 and other worries, we would very much like to re-enter.  There are a number of positive drivers for PCAR, as we outlined in our Truck OEM black book last August, including a very old North American fleet, parts sales on the MX engines and some returns on investments in Brazil.  But the shares have outperformed significantly since that presentation, leaving the risk/reward trade-off less attractive.  We are looking to buy a big dip, if we get it.  If not, there are other fish.



PCAR: 2H Buying Opportunity Coming? - nb


Short the Fear

Client Talking Points


Fact: Fear is not getting paid. S&P 500 still ripping higher up +18.7% year-to-date. Russell 2000 absolutely en fuego up basically +24% year-to-date. Key point is S&P 500 has been down only two of the last fourteen days. Yesterday's tiny -0.2% "Mini-Me" correction came on the lowest volume day in the last fourteen. Overall volume trending very weak in July; but the two down days had lower volume than all of the up days. Incidentally, today is the 10th consecutive day where all 9 sectors in our Hedgeye S&P model are bullish on both our TRADE and TREND durations. Don't short any sectors. Immediate-term risk range on S&P 500 is 1684-1702.


Both the Bubonic Plague (Gold) and Oil are backing off this morning as the US Dollar stops going down. For the record, we bought back our long USD position yesterday; we still like that versus short Yen. Not to rain on the Gold Bug Parade, but the precious metal is down 20% year-to-date. Our immediate-term risk range (in our Daily Trading Range product) for Gold is $1249-1349. The immediate-term risk range on Oil (Brent) is $107.21-109.14. 

Asset Allocation


Top Long Ideas

Company Ticker Sector Duration

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.


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. 


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. 

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Hedgeye only gets paid for being right - no banking, broker dealering, or insider trading - just research



Huh? Caterpillar CEO Olberhelman on CNBC this morning: "3 to 5 to 10 years down the road mining activity will come back."


China's manufacturing weakened by more than estimated in July, according to a preliminary survey of purchasing managers that casts further doubt on the government’s ability to meet its annual economic growth target. The reading of 47.7 for an index released today by HSBC Holdings Plc and Markit Economics, if confirmed in the final report Aug. 1, would be the lowest in 11 months. Readings below 50 indicate contraction. (Bloomberg)


Hedgeye CEO Keith McCullough weighs in this morning with his latest no-holds-barred thoughts and advice on the markets and economy.



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