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EAT – EARNING PREVIEW

We believe EAT will report disappointing 4Q13 results.


Over the past month, the S&P has risen 5.3% while the Bloomberg Full Service Restaurant Index has declined 2%.  During this time, EAT has only declined 1% and sits 6.9% below its all-time high of $41.93.  At 7.8x EV/EBITDA, EAT is currently trading below its peer group average of 8.7x.  That being said, we believe the whole group, including EAT, could see multiples revised lower in the coming months.

 

We continue to believe EAT is one of the best managed companies in the restaurant space, but it is not immune to the industry’s softening secular trends.  After seven straight quarters of positive traffic growth (3Q11 to 1Q13), Chili’s is looking at its third consecutive quarter of a decline in traffic growth.  We believe that the slowdown in traffic trends at Chili’s can be attributed to the confluence of a secular decline in industry trends and aggressive discounting from DRI.

 

EAT – EARNING PREVIEW - Chilis Tra

 

 

Sales Trends


In 3Q13, EAT reported 20% EPS growth on a 0.6% decline in revenue growth.  In 4Q13, street estimates are looking for EPS growth of 23% ($0.74) on revenue growth of 1.2%.  Given the reported decline in industry sales trends in June, we believe it will be very difficult for EAT to realize the 180bps sequential acceleration in revenue growth that consensus is looking for in 4Q13.

 

HEDGEYE – Same-store sales trends at Chili’s are a critical variable in the financial performance of the company.  We foresee sales trends at lunch slowing under the pressure of increased discounting from DRI.  The company has only beaten revenue estimates in 4 of the last 8 quarters.

 

EAT – EARNING PREVIEW - EAT SSSSS

 

 

Operating Margin Trends


We expect cost of sales to decline 60-70bps year-over-year, driven mainly by favorable mix in part to the 3Q13 introduction of its pizza and flatbread category coupled with some benefit from menu pricing.  Since 2Q11, EAT has made significant progress in bringing down labor costs through the implementation of its “Kitchen-of-the-Future” initiatives.  However, we suspect that some of this continued benefit from labor deleverage will be partially offset by weak same-store sales trends.

 

Between other operating expenses and G&A, we don’t believe EAT has enough leverage in the P&L to produce the 150bps year-over-year improvement in operating margin that the street is expecting.

 

HEDGEYE – Unfortunately, DRI’s aggressive discounting is making life difficult for every player in the casual dining space and particularly for EAT.  We don’t expect EAT’s management to respond to the increased promotional environment and this could hurt traffic trends on the margin.

 

EAT – EARNING PREVIEW - EAT OPM

 

 

Sentiment

 

Illustrated in the chart below, 52.4% of analysts rate EAT a Buy, 42.9% rate EAT a Hold, and 4.8 rate EAT a Sell.  The sell-side is slowly beginning to come around to our bearish view as a few analysts have downgraded the stock from Buy to Hold in July.  Short interest in the stock is currently 11.12% of the float.

 

HEDGEYE – We believe that EAT’s 4Q13 results will confirm our bearish thesis on the company and the rest of the casual dining industry.

 

EAT – EARNING PREVIEW - EAT ANR

 

 

Valuation


At 7.8x EV/EBITDA EAT is trading at a slight discount to its Casual Dining peer group trading at 8.7x EV/EBITDA.  Facing slowing traffic trends and significant pressure from DRI’s aggressive discounting, we believe EAT is appropriately valued slightly below its peer group. 

 

HEDGEYE – We believe the whole group is likely to see multiples revised lower in the current quarter.

 

EAT – EARNING PREVIEW - EAT PE

 

EAT – EARNING PREVIEW - EAT EV EBITDA

 

 

The company is hosting its earnings call on Friday morning at 10:00am EST.  We’ll post on anything incremental after the call.  

 

 

 

Howard Penney

Managing Director

 


Morning Reads on Our Radar Screen

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

Morning Reads on Our Radar Screen  - Screen Shot 2013 07 30 at 9.27.01 AM

 

 

DARYL JONES: MACRO

As the Second U.S. Housing Bubble Inflates: Rapidly Escalating Prices (via Seeking Alpha)

 

Former ECB Chief Economist Warns "ECB Will Soon Have to Support France with Bond Purchases" (via Mish's Global Economic Trend Analysis)

 

 

 

HOWARD PENNEY: RESTAURANTS

Chipotle Eating Higher Avocado Cost Shows Fed Disinflation Worry (via Bloomberg)

 

 

 

BRIAN McGOUGH: RETAIL

Back-to-School Retailers Shift to Dorm-Room Market (via BusinessWeek)

 

 

 

JONATHAN CASTELEYN: FINANCIALS

Deutsche Bank Profit Unexpectedly Falls on Legal Costs (via Bloomberg)

 


[VIDEO] #DebtDeflation: Q3 Macro Theme #2

 

Right now, total global debt outstanding is three times total equity.  This has created a massive Supply/Demand mismatch, as the supply of debt dwarfs the availability of equities. Nearly every major investment class is broken on Hedgeye’s macro screen including Gold, 10-year Treasurys, Emerging Markets and high-yield bonds.

 

The trends have reversed, and you should expect the outflows to be just as poorly planned as the inflows were.  Indeed, the real risk is that there is a rush for the exits, leading already-crumbling asset classes to implode.

 

Hedgeye CEO Keith McCullough digs deep into this critical #DebtDeflation Q3 Macro Theme and how investors should position themselves.


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 80.33%
  • SHORT SIGNALS 78.51%

Bad is Good

Client Talking Points

JAPAN

Japanese Industrial Production for June came in at -4.8% y/y vs expectations for -2.6%. Given the complete Japanese co-opting of western style Keynesian policy, the accelerating slowdown is viewed as a market positive as it ensures continued easing and ongoing Yen debasement – exporters benefit and things priced in (less valuable) Yens go up.   The Yen, despite recent strength, failed at our 97.61 resistance line which, of course, is positive for the dollar, on the margin.   The $USD remains Bullish in our quantitative risk management model with immediate downside/upside at $81.46/82.39. 

10 YR

With the SPX off a whopping 37bps yesterday on vapid volume, the 10YR barely took notice – advancing 4bps to 2.60% and is holding that level this morning.  With a record over-allocation to fixed income funds and near historic lows in investible cash, we continue to think money flows from bonds to equities as investors and asset allocators adjust portfolio’s to reflect the realities of #RatesRising.        

Asset Allocation

CASH 37% US EQUITIES 24%
INTL EQUITIES 14% 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

#Water is the next great asset class, the next great uncorrelated investment - @JamesGRickards

QUOTE OF THE DAY

"..We can ease policy further if needed.  The recent decline in the exchange rate seems to make sense from a macroeconomic perspective. It would not be a major surprise if a further decline occurred over time.” Glenn Stevens, RBA Governor

STAT OF THE DAY

Japan Industrial Production -4.8% YoY vs -2.6% estimate.  Nikkei Up on more Japan QE.   



Damned Lies

“There are lies, damned lies and statistics."

-Mark Twain

 

I’ve been spending the last few weeks reading up on advanced statistical analysis of hockey.  Based on my initial research, hockey is very much behind the other major sports in the use of statistics to analyze and value players.  Much of professional hockey is still ruled by the old boys club who make player acquisitions based on “gut feel”.

 

To be fair, hockey is a difficult sport to analyze, unlike baseball which has repeatable interactions, such as at bats, that can be counted, hockey is more of a chaotic game.  I asked my good friend Theo Epstein from the Chicago Cubs, an early and successful user of Sabermetrics in baseball, about his thoughts related to the analysis of hockey.  He directed me towards what he called a plus / minus on steroids – Corsi.

 

This statistic was developed by former Buffalo Sabres goaltending coach and measures, or counts, the number of shot attempts on the opposition’s net (including blocked and missed shots) for which the player receives a plus and subtracts it versus the number of shots on his own net.  The theory is that shots are a proxy for possession and over the long run possession leads to goals and a positive goal differential to wins.

 

This stat can then be adjusted according to the relative quality of competition via a statistic called Corsi Rel QoC, which attempts to normalize Corsi for the quality of opponent.  There are also addendums to this stat that look at where a player typically starts on the ice.  For instance, if a player, due to his defensive proficiency is more often started by the coach in face-offs in his own zone, he is likely to have a lower Corsi rating. So, this too needs to be normalized over time and relative to other players.

 

But enough about hockey statistics and back to the global macro grind . . .

 

Yesterday the newest member of our Financials Team, Jonathan Casteleyn, launched on asset management coverage in a very thoughtful 90+ page presentation titled, “Fixing Your Income: The Danger of the Bond Market.”  Akin to all of Hedgeye’s research, this launch presentation was replete with statistics (and hopefully very few damned lies!)  From the macro perspective, Casteleyn raised a number of key points that I wanted to re-emphasize.

 

First, the U.S. bond market has $38 trillion outstanding across munis, treasuries, mortgages, corporate debt, agency debt, money markets and asset backed.  This is up more than 15% over the last five years and has been dually driven by the increase in corporate bonds, up 50% in that period, and treasuries, which are up roughly 100% in five years.  The ratio of stocks to bonds is now at 68/32%, which is one of the highest ratios we’ve ever seen.  Reversion to the mean anyone?

 

Second, 10-year treasury duration is literally at an all-time high of 8.9.  The implication of this is that a 100 basis point move in the 10-year equates to an 8.9% loss in value.  In other words, interest rate risk is literally as high as it has ever been, so any further normalization of rates (remember we remain well below historical levels) has the potential to lead to substantial losses in the bond market.   Given this, broker dealers are reducing trading exposure to interest rate products, which has the potential of exacerbating moves in the fixed income market.  As we highlight in the Chart of the Day, this is already leading to accelerating bond volatility (or as Taleb would say, more fragility).

 

Finally, Casteleyn corroborated our macro team’s bullish view of U.S. equities on likelihood of reversion to the mean on asset flows, as alluded to above.  He also pointed out that current all in yield of the SP500 is 6% (2.0% dividend yield plus 4.1% earnings yield), which compares favorably to the 2.5% yield-to-maturity on 10-year treasuries.   So not only do you get a better yield on equities, but equities typically outperform when the first hike in rates occurs.

 

That was a Cliff’s Notes version, at best, of the presentation yesterday, but if you have institutional research access please email to receive a copy.  This idea of continued and sustained outflows from fixed income is in the early innings and may have profound implications for asset returns in the coming quarters and years.

 

Speaking of interest rate volatility, the FOMC’s 2-day meeting begins today with a rate decision, or lack thereof, scheduled for Wednesday.  This is to be followed by the ECB on Thursday.  We actually would be lying, or at least have inside information, if we attempted to make a call on what either the ECB or Fed will say, but we can say this with some certainty, the potential for them to create market volatility is a real risk, so keep these events front and center on your risk management monitor this week.

 

Our immediate-term Risk Ranges are now as follows:

 

UST 10yr Yield 2.47-2.66%

SPX 1

Nikkei 131

USD 81.46-82.39 
Brent 106.48-108.12

Gold 1

 

 

I’ll sign off with one of my very favorite statistics quotes from George Bernard Shaw:

 

“Statistics show that of those that contract the habit of eating, very few survive.”

 

Stats don’t lie, my friends.

 

Keep your head up and stick on the ice,

 

Daryl G. Jones

Statistician

 

Damned Lies  - Chartoftheday

Damned Lies  - Virtual Portfolio

 

 

 


Daily Trading Ranges

20 Proprietary Risk Ranges

Daily Trading Ranges is designed to help you understand where you’re buying and selling within the risk range and help you make better sales at the top end of the range and purchases at the low end.

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