On Wednesday, Malcolm Knapp gave us a glimpse of how ugly sales trends were in July when he released his estimates for the month.  Although the numbers released by Black Box yesterday are not as dire, it remains clear that the industry is beginning 3Q13 in a hole and must play catch up in order to make the numbers.


As a refresher, Knapp reported that July 2013 same-restaurant sales declined -3.8%, while traffic trends declined -5.1% -- both metrics slowed sequentially over a markedly weak June.  Black Box numbers were slightly less gloomy, as same-restaurant sales declined -0.9%, while comparable traffic trends declined -2.2%.








Currently, our Casual Dining Index (a compilation of 29 casual dining chains) is estimated to post same-store sales growth of +1.4% in 3Q13, before accelerating to +2.8% growth in 4Q13.  This would indicate, that for the balance of 3Q13, same-store sales need to accelerate by 200-300 bps to make the current estimates.  Knapp noted that while all four weeks in July were negative, each successive week in the month was sequentially better than the prior.


We believe a massive acceleration in trends will be difficult to achieve.  According to our Casual Dining Index, average same-store sales growth in 2Q13 was +2.1%, indicating that same-store sales for the period were up +1.7% on a LTM basis, down significantly from its +3.7% peak in 1Q12.






With the casual dining group trading at 23.5x P/E and 8.8x EBITDA (adjusted for CHUY and NDLS), it appears as though the market is expecting a noticeably sizeable acceleration in same-store sales.  While the job market continues to show signs of improvement, at least in the headline numbers, it seems as though the weakness we have seen in July can be partially attributed to a surge in gas prices.






Our top short in the casual dining space remains RRGB.  The company is due to release 2Q13 earnings on August 15h before the open.  We will post on anything incremental after the call.




Howard Penney

Managing Director


[VIDEO] Seideman: OpenTable (OPEN) Is a Buy


Hedgeye Summer Intern, Yale Senior and Tennis Superstar Blair Seideman lays out the bullish, long-term case for OpenTable (OPEN). She highlights the company’s dominant market share, brand loyalty, and the imminent launch of its proprietary, cloud-based Electronic Reservation Book (ERB). Seideman believes this new, innovative upgrade will drive OPEN’s seated diner numbers faster than consensus expectations.


Bottom line: If Blair’s skills and success on the court are any indication of her future as an analyst, our advice is to pay close attention to her investment advice on OPEN.


Weaker close-in bookings troubling



Since CCL gave guidance in late June, we haven't seen much improvement overall in 2014 pricing.  More troubling, however, is that pricing is dropping considerably for close-in bookings for Q4 2013.  Most of Q4 is already on the books so we're not so much worried about Q4 yields and earnings.  What troubles us is that weak last minute pricing could be indicative of soft demand carrying into the 2014 Wave season.  The Street is expecting Carnival to post 3.0% net yield growth (constant-currency) in 2014.  While pricing that laps Triumph will have easier comps, consensus estimates could prove aggressive. 


Here are some observations from our proprietary pricing survey of >12,000 itineraries.  We analyze YoY trends, as well as relative trends, which are determined by pricing compared to the last earnings/guidance date for a cruise operator i.e. CCL: 6/25



  • Close-in pricing for end of 2013 continue to worsen, relative to July's.  FQ1 2014 pricing also has deteriorated further. However, FQ2 2014 pricing has reversed course to being flat - with pricing trend unchanged.


  • Europe continues to be in status quo mode – slow and steady
    • Costa’s close-in FQ4 pricing, while slightly lower sequentially, continues to be robust YoY; early 2014 Costa pricing trend is slightly higher.
    • Cunard and Princess FQ4 pricing slipped a little relative to July but is still nicely higher YoY
    • AIDA’s FQ4 saw some discounting everywhere except Western Med in August. FY2014 pricing is relatively unchanged.

Mexico/South America/Asia  

  • Pricing is little changed relative to July
    • Mexico’s FQ4 2013 pricing for Carnival remains weak but FQ1 2014 pricing is somewhat higher YoY, led by Carnival Inspiration
    • Costa's Asia pricing continues to maintain high double digit growth


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The bear raid in U.S. equities took its toll with a cumulative decline of 71 basis points over the last four days (#SarcasmAlert). We’ve been harping on this all year, but as the U.S. economy continues to transition from stabilizing to accelerating with labor and confidence hitting levels not seen since 2007, U.S. equities will continue to find a bid on any sell-off.


The longer term supporting bid in U.S. equities is, of course, the theme that our financials team has been focused with their recent launch on asset managers, which is the current (and we expect continued) outflows from fixed income assets as interest rates grind higher. 


This will only accelerate if U.S. economic data continues to come in strong.




Takeaway: This note argues why the current criticisms of JPMorgan's 2Q earnings quality seem misplaced. We also take a refreshed look at fair value.

This note was originally published July 12, 2013 at 12:11 in Financials

Insight: JPM 2Q EARNINGS - jpm 

(Editor's note: Hedgeye's Institutional Clients range from the country's largest mutual funds to the world's top hedge funds. For more information on Hedgeye's Institutional Research product offerings, please click here.)


Lateral Plays


JPM read throughs. We see Capital One (COF) as a clear winner when they report 2Q next week. The card results from JPM confirm our perception of accelerating underlying improvement in credit quality in the unsecured market. Also, the enormous Q/Q improvements in residential RE credit quality trends bode well for BofA (BAC) when they report next week.



Results Are Stronger Than They Appear

JPMorgan reported a strong second quarter (all things considered), a blueprint for how we expect the rest of earnings season to progress. That said, there are many size-able adjustments that bulls and bears alike can find plenty to like or take issue with in this report. Here's our take.


The printed number was $1.60 vs. the Street at $1.44. There’s lots of adjustments here, so let’s dig in.


  • First, the company posted a whopper of a reserve release at $1.356bn, or 23 cents per share. Consensus was looking for $1.26bn, or 21 cents per share . As such, that delta only accounts for 2 cents vs. Street numbers.
  • Second, the company posted a DVA benefit of 6 cents or $355mn from spreads widening. This is a tough one to make apples to apples adjustments to because, while we know there's a DVA benefit in the consensus estimate, we don't know how large it is. 
  • Third, they posted a 9 cent ($600mn pretax) charge for boosting litigation reserves.

Net, net we get to $1.60 less 2 cents (reserve release delta vs consensus) less 6 cents (DVA) = $1.52. Finally, if we give them the 9 cents in litigation reserve they pop back up to $1.61, and, if not, they stay at $1.52. Either way, they seem well ahead of the $1.44 estimate. Also, recall that the $1.44 already included some degree of DVA tailwind, so the true apples to apples number is likely stronger still.


Moving past the adjustments, here is a quick summary of some of the other notable items we spotted this quarter: 

  • NIM down 17 bps QoQ to 2.20% from 2.37%. Much of the decline was attributable to the company boosting cash levels by over $100 billion to meet LCR requirements. The interesting takeaway is that while NIM was down 7.2% Q/Q, Net Interest Income was down a much more benign 1.8% Q/Q. Also, taking a step back, if we look at the 7-quarter trend, we find that NII has been falling at trend-line rate of $202mn per quarter (Q/Q). This quarter's sequential decline of $208mn was essentially right in line with that trend. We're not cheering this as good news, but it is an important context factor relative to what appears to be horrible sequential performance in the NIM. Also, it's worth noting that the forward outlook is for stabilizing NIM in the back half and for NII to be sequentially higher in 3Q vs 2Q. For reference, in the last 7 quarters, NII has only advanced Q/Q once (4Q12).
  • Loan growth was negative 50 bps Q/Q. The outlook is for loan growth to begin to accelerate in the back half of the year as the company is reporting seeing early signs of a modest resurgence in loan demand.
  • Non-interest income was again strong this quarter, even after adjusting for DVA benefits. Clearly the Investment Banking business delivered stronger than expected results and Mortgage Banking held steadier than expected under the circumstances. Looking forward, the company clearly tempered expectations on the mortgage side, indicating that the current rate environment would lead to a 30-40% reduction in mortgage volume over the back half of the year. 
  • Efficiency was up Q/Q, rising to 61.1% from 59.7%, but is continuing its trend-line improvement since the start of last year. Looking back over the last 7 quarters, the company has driven efficiency lower by 1% per quarter (Q/Q). 
  • Credit quality was impressively strong this quarter. Supporting the massive reserve release, the company’s NPAs and NPLs were down, 4 and 9 bps, respectively. Meanwhile, coverage remained at 199% of NPLs in spite of the drawdown (flat with last 4 quarters).
  • Tangible book value per share advanced this quarter to $40.04 from $39.54 last quarter, and, importantly, has grown 12.1% in the last 12 months. This is in spite the London Whale fiasco. This quarter, the company posted a 13% return on equity and a 17% return on tangible equity.
  • Leverage Ratio - Yesterday's fanfare over the new supplementary leverage ratio requirements looks like it won't be a terribly big event for JPMorgan. To put things in context, the company is currently at a 4.7% leverage ratio under the new framework with a BHC requirement to get to 5% by 1Q18. They are generating a 16-17% return on tangible capital right now. If we gross up their capital base by 6% (5.0% / 4.7% = 106%), we find that that potential return on tangible equity compresses by roughly 100 bps, i.e. from 17% to 16%. On a fair value model for banks, a 100 bps compression in potential ROTE equates to roughly an 8% reduction in multiple to tangible book value. 8% of JPMorgan's $40 TBVPS = $3. However, based on the company's 16-17% ROTE, we estimate fair value is actually closer to 2x tangible book value (on a straight P/TBVPS : ROTE model (y = 9.4098x + 0.492) and on an EVA model (+3.2%) we estimate fair value is 1.73x TBVPS (y = 8.2686x + 1.4679), or $70-80 per share. So a $3 reduction in potential fair value seems de minimis relative to $15-25 upside.
  • Capital Return - The dividend was increased to 38 cents (2.7% yield) from 30 cents (2.2%) and the outlook for buyback remains unchanged.

The charts below look at the trends in net interest income, tangible book value growth vs. price and returns, the current relationship of return on tangible capital to price/tangible book value (good), the current relationship between EVA and price to tangible book value (better), the current upside/downside to fair value by bank based on our EVA model, and, finally, the 2Q earnings snapshot.


Insight: JPM 2Q EARNINGS - jpm 2


Insight: JPM 2Q EARNINGS - josh1


Insight: JPM 2Q EARNINGS - simple scatter


Insight: JPM 2Q EARNINGS - eva scatter


Insight: JPM 2Q EARNINGS - cheap cheap


Insight: JPM 2Q EARNINGS - jpm earnings


Joshua Steiner, CFA



Jonathan Casteleyn, CFA, CMT




Following the release of 3Q13 results, we continue to believe that the long-term potential of JACK is underappreciated, particularly with respect to the future growth of Qdoba.  The company’s recent initiatives only enhance this view.


3Q13 Results

JACK reported 3Q13 adjusted EPS $0.03 above consensus along with a top line miss (-3.71%) that was in line with industry softness.  Company sales trends for the quarter were mixed as same-store sales for Jack in the Box fell short of expectations (+1.2% versus +1.8% consensus), while same-store sales for Qdoba came in above expectations (+0.5% versus -0.1% consensus).



Strategic Initiatives

In June 2013, upon completion of a strategic market review led by newcomer Tim Casey, the company announced plans to close 67 of its company-operated Qdoba restaurants.  We responded positively to this announcement in our note, “Jack: Right-Sizing The Qdoba Ship,” when we wrote:


                “The upside in JACK, as we have often written, is in the multiple assigned to the Qdoba business.  To the extent that it occurs, future upside to earnings is obviously also a positive.”

We continue to stand by this, and believe that CEO Linda Lang’s assertion that the closures are expected to result in higher future earnings, AUV’s, restaurant operating margin, cash flow and ROIC, will come to fruition.  To date, the company has closed 62 underperforming Qdoba locations, transferred 3 to a franchisee and will close the remaining 2 when their leases expire at the end of the year.


As for Jack in the Box’s refranchising strategy, they intend to sell 29 additional restaurants by the end of FY13 and an additional 60 by the end of FY14.  Upon completion, the company’s goal is to have between 80-85% of Jack in the Box locations franchised, which similar to the closure of Qdoba stores, should have a positive impact on financial performance.






Change at the Top

The company also announced this week that CEO Linda Lang plans to retire as of Jan. 1, 2014, and will be replaced by current President and COO, Leonard Comma.  We expect this transition to be seamless, as Leonard is well-respected within the industry and, in our view, fully capable of leading JACK in its future endeavors.



Potential Upside

In our view, the company’s aggressive move to restructure Qdoba is likely to improve the brand’s profitability and should provide investors with the confidence to assign the brand a growth multiple.  Due to this renewed growth profile, we see approximately 25% potential upside in the stock over the next 2-3 years.  Below we offer some more thoughts on 3Q13 results:



What We Liked

  • Strong strategic plays in refranchising and restructuring by Jack in the Box and Qdoba, respectively
  • Jack in the Box 3Q traffic improved sequentially from 2Q
  • Raised full-year restaurant operating margin guidance to 17-17.5%
  • Qdoba closures expected to add $0.15-$0.16 to FY13 EPS from continuing operations
  • Raised full-year operating EPS guidance to $1.72-$1.78
  • The company has $84.7m remaining in its stock buyback program that expires in Nov. 2014 and an additional $100m authorized for stock buybacks that expires in Nov. 2015


What We Didn’t Like

  • Jack in the Box company same-store sales were down in July
  • Scaled back full-year guidance for new Qdoba restaurants from 70-75 to 65-70
  • Qdoba margins decreased 270 bps to 20.6% in 3Q, driven by a combination of sales deleverage, commodity inflation, product mix changes and increased staffing levels
  • Competitive environment – seeing deep discounting from some casual diners as well as strong value plays by other QSRs










Howard Penney

Managing Director


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 80.46%
  • SHORT SIGNALS 78.36%