LINN Energy 3Q13: Spend, Baby, Spend

Takeaway.....Better-than-expected 3Q13 on the DCF side, but with a massive outspend relative to maintenance CapEx (again); 4Q13 organic production guided down; outcome of the SEC Inquiry / BRY merger remains a big question; we make the case for LINE fair value at $5.00 / unit; no change in our view, LINE / LNCO remains a top short idea. 


3Q13 DCF Beats, Production In Line……LINN’s 3Q13 Distributable Cash Flow (even though LINN doesn’t use the term anymore, it’s still what some people care about) came in at $173MM vs. $148MM guided.  Stronger-than-expected oil production volumes and lower cash costs drove the beat.    LINN reported volumes of 823 MMcfe/d vs. guidance of 810 – 830 MMcfe/d and 780 MMcfe/d in 2Q13 (up 5.5% QoQ).  Oil production beat the high end of the guidance range, likely due to a ramp in activity and spending in the Granite Wash and Anadarko JV over the last two quarters.  Production taxes came in $11.5MM below guidance, as ad valorem taxes, “which are based on the value of reserves and production equipment” fell “primarily due to lower assessed values on the Company’s base properties” (3Q13 10-Q).  Is that bullish?  Adjusted, Open Net Income came in at $0.12/unit and open EBITDA was $334MM 


4Q13 Organic Production Guided Down……LINN left its 4Q13 production guidance flat at 850 MMcfe/d (assuming no ethane rejection) from its prior guidance, despite the fact that it will have a material contribution from the newly-acquired Permian Basin assets, which was not factored into the previous guide.  The deal is expected to close “on or before October 31, 2013” (3Q13 10-Q).  LINN expects the asset to average 4,800 boe/d (63% oil) over the first 12 months, which would amount to a ~19 MMcfe/d contribution in 4Q13.  This makes the acquisition all the more interesting because it looks like it was done just to plug a hole.  LINN increased 4Q13 DCF guidance by ~$9MM, but by our math that incremental DCF is all from these acquired, high-margin oil properties.   


Huge CapEx Burn (Again)……LINN spent $339MM in total organic CapEx in the quarter, with only $116MM held back from distributions as “discretionary reductions for a portion of oil and natural gas development costs.”  (This was formerly known as “maintenance capital expenditures;” despite the change in terminology, nothing has changed with how this number is calculated.)  Total CapEx exceeded maintenance CapEx by $223MM in the Q, more than the $171MM distribution payment.  Over the TTM, total CapEx exceeds maintenance CapEx by ~$900MM, while production was ~+1.6% YoY on an organic basis, by our calculations.  Just shocking…


LINN Energy 3Q13: Spend, Baby, Spend - linn1


2013 CapEx Guidance is Too Low……Excluding acquisitions, YTD 2013 CapEx is $959MM (per the CF statement); the 2013 guidance remains at $1,150MM (3Q13 10-Q), implying that LINN will spend less than $200MM in CapEx in 4Q13.  We find that highly unlikely considering that CapEx was ~$340MM/quarter over the past two quarters.  FY13 CapEx is likely to be closer to $1,300MM.


Free Cash Flow Negative……Over the TTM, LINN has paid out $682MM in distributions on a similar amount of what was previously called DCF, all the while being sharply Free Cash Flow (FCF) negative, before acquisitions.  In 3Q13, FCF was -$84MM; over the TTM FCF was -$388MM.  For a Company that doesn’t grow organically, and pays out massive distributions, this is concerning. 


LINN Energy 3Q13: Spend, Baby, Spend - linn2


Premiums Paid Disclosure Disappears......It is disappointing that LINN has removed disclosure telling investors what the premiums paid for derivatives that settled in the period were.  It was disclosed in the 2Q13 10-Q as $43MM (~28% of DCF).  In our view, this is the amount by which LINN's DCF is overstated due to its aggressive derivatives accounting methodology, and is important information that needs to be disclosed.


An argument for LINE at $5.00/unit……LINN is now trading around 8.9x Adjusted EV / Open EBITDA (we annualized the 3Q13 open EBITDA number and adjusted the EV lower by the net derivative asset per the 3Q13 balance sheet).  On this measure, of the large cap E&Ps, only EQT, COG, PXD, and RRC are more expensive, and these companies have arguably the best undeveloped acreage positions and future growth potential of all NAm E&Ps.  Consider that SU, DVN, OXY, APC, and DNR all trade around 5 – 6x 3Q13e Annualized EBITDA.  What is LINN Energy?  A free cash flow negative E&P with no organic growth, no shale scale, no material non-proven value (midstream or acreage), and highly-dubious accounting practices which are currently the focus of an SEC inquiry.  For perspective, LINN at 5.0x EBITDA is a ~$5.00/unit stock.  This isn't to say it's going there (at least any time soon), but we are tired of hearing the "LINN is cheap" argument.  In our view, LINN is over-valued by at least 100%. 


LINN Energy 3Q13: Spend, Baby, Spend - linn4


Kevin Kaiser

Managing Director


Takeaway: Witness how the Financials (XLF) act with Bernanke leaning on the long-end of the curve.

Can you say D-O-G? That’s how the Financials act with Bernanke leaning on the long-end of the curve.


The XLF was down in a market up week last week, and were down again yesterday as consensus is forced to chase slow-growth (Consumer Staples +1.2% yesterday). The Yield Spread (10year – 2year) compresses again this morning to 219 basis points wide. It's a bearish U.S. Growth signal versus bullish Europe. 




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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 80.52%
  • SHORT SIGNALS 78.68%


Like CCL and RCL, NCLH expressed caution over the Caribbean environment.  2014 guidance was a tad short of what the Street was expecting.




  • 3Q capacity increased by 14.9%
  • 3 ships in Alaska for 1st time since 2009
  • Hawaii capacity increased slightly; Pride dry dock (24 luxury suites)
  • Breakaway:  guest satisfaction levels same levels as Epic introduction
  • Escape: Fall 2015; Bliss: Spring 2017
  • Environment has been more challenging than expected in the beginning of the year
  • 16 days of govt shutdown coincided with difficult booking environment; heightened close-in booking environment in 3Q
  • 3Q net ticket increased 5% and onboard yields increased 1.5% - helped by Breakaway
  • 3Q Weighted average cost of debt: under 4%
  • 4Q deployment:  55% Caribbean, 17% Europe, remaining spread between Hawaii, Panama Canal, Bermuda, and Other
  • 4Q:  dry dock for Norwegian Sky and promotional spending for Getaway
  • 2014 adjusted NCC guidance: 1-2%
  • Getaway:  7-day year-round to Caribbean (1st time in many years)
    • Feeling good about Getaway based on Breakaway results
  • Pearl- chartered ship so will reduce # of Caribbean itineraries for summer 2014
  • 2014 GUIDANCE : +60% EPS growth $2.20 (below consensus of $2.29) but comfortable with low-mid $2.20 range

Q & A

  • 1Q bookings a little behind; all other quarters ahead
    • Easter calendar effect (booking momentum into 2Q)
    • Mid-single digit price improvement
  • Pricing above mid-single digits for 2014 overall
  • Want to see Caribbean stronger, particularly in 1Q
  • 2014 net yields:  low/mid 4s 
    • 1Q/2Q:  healthy pricing environment in Caribbean
    • High promotional environment 
  • Caribbean promotional environment:  more competitive
    • Last month or so, it has been consistent
  • 2014 European deployment about 20%
    • Pricing has been positive; mid-single digit growth
    • Feeling pretty good
  • 2014:  64% hedged in fuel
  • New ship premium are 'in the double digits'- Getaway lost some premium lately since they priced very high in the beginning (our pricing survey confirms this)
    • Has premium widened?  Not really.
  • Lots of opportunities to drive firm efficiencies (e.g. Six Sigma); 500bps by 2017; invested capital growth of 14%
  • Getaway bookings:  consistent with mgmt expectations
  • Europe future capacity:  biggest in NCLH's history; am comfortable with current capacity
  • 3Q Onboard:  casino was strong; 4Q onboard is back to normal levels

Is Eric Sprott Right on Gold?

Takeaway: Monetary policy and not perceived supply and demand is the driver of the price of gold.

This note was originally published October 23, 2013 at 17:00 in Macro

Is Eric Sprott Right on Gold? - sprott

As many of you know, one of the most esteemed gold bugs of our generation is the venerable Eric Sprott of Sprott Asset Management in Toronto.  Since 2000, he has obviously been spot on in his bullish call on gold, although this year has obviously been not quite so shiny (so to speak) for the gold bulls.


Yesterday, Sprott wrote a note to the World Gold Council effectively questioning their projections for short term supply and demand for physical gold.  Admittedly, he actually raises some interesting points, in particular the idea that even though physical gold in ETFs has been in free fall this year, it appears unlikely to go much lower from current levels.


On a higher level, Sprott’s point that the available statistics on gold are misleading to the extent that they may be overstating the available supply of and thus negatively impacting the price of gold is an interesting one and worth investigating further.  In the chart below, we’ve re-created Sprott’s table that was attached in his letter to the World Gold Council.


Is Eric Sprott Right on Gold? - jones1


The table shows that demand for gold, according to Sprott, is clearly out stripping supply.  In his analysis, Sprott nets out both Chinese and Russian domestic production from the world market, which he argues never leave the country and are consumed directly internally.  He also excludes about 400 tonnes a year in technology demand, which he believes is double counted.  On the flip side, Sprott excludes what the GFMS dubs “OTC investment and stock flows”, which is a name for a plug of sorts that represents the gold traded in the OTC market.


In summary, based on Sprott’s analysis there will be a deficit of supply this year of more than 780 tonnes.  If he is correct, and if gold in fact trades off of supply and demand, then the sell-off in gold this year is truly because the consensus misunderstands the global supply and demand dynamics.  Or, alternatively, there are other key factors driving the price of gold, which we will touch on shortly.


The counterpoint to Sprott’s case is that aggregate gold demand is down based on the World Gold Council’s numbers for the year-to-date.   According to the World Gold Council, demand actually fell by 12% in Q2 2013 from Q2 1012 to 856.3 tonnes.  This is just about 20% below the 5-year average quarterly demand for gold.  Clearly, this is a very different story than Sprott’s numbers outline.  In fact, as we show in the table below, the world gold council shows an over-supply of gold in the year-to-date. 


Is Eric Sprott Right on Gold? - WGC Table


Sprott’s full year estimates vary from the World Gold Council’s annualized numbers by 1,215 tonnes in aggregate.  On a notional basis, the supply and demand difference between the two sets of estimates is $52 billion.  This is a difference that is big enough to drive a very large truck through.  So, who is right?  Well, simply, the market seems to be saying the World Gold Council has nailed this one. 


One point both groups agree on, which is very transparent data, is that the financial demand for gold via ETFs has fallen dramatically this year.  Through the first two quarters of the year, the gold held by ETFs has declined by 579 tonnes.


But given the clear opacity in global supply and demand numbers for gold, we would actually posit another thesis, which is that perceived supply and demand is not the key driver of the price of gold at all and both sets of estimates are merely noise.  In the chart below, we show one of the strongest correlations we’ve seen over the last five years, which is the gold price versus the Federal Reserve balance sheet.


Is Eric Sprott Right on Gold? - Gold vs Fed BS 102313


From 2008 – 2012, this correlation was about as tight as we’ve seen in our factoring models with a r-squared of 0.90.  The chart also shows that in 2013, this relationship broke down in emphatic fashion.  Investors began to sell gold as economic data accelerated and in effect began front running a change in policy course from loosening to tightening.


The largest decline in demand for gold this year has come from a decline in demand from ETFs, or the financial markets.    As the chart below highlights, the price of gold and value of gold in ETFs has increased in lockstep for the last decade and declined in lock step starting about a year ago with the initial correction in the price of gold leading the exit of physical gold from ETFs.


Is Eric Sprott Right on Gold? - Gold   Total ETF Holdings


Ultimately, the true supply and demand dynamics for gold are difficult to determine, but we would argue that on some level they should likely be ignored.  The best predictor of gold prices will continue to be the direction of monetary policy both in the United States.  Loose monetary policy and a subsequent weak dollar, will create monetary inflation and inflate both the price of gold in real terms and lead to increased demand for gold as a store of value.


In the long term chart below, we see this relationship play out in spades going back to 1969.   Consistently, a protracted increase in the value of the dollar has lead to a commensurate decline in the value of gold and vice versa.  Interestingly, the recent spike we have seen in the value of gold in the last ten years coincides nicely with the advent of financial demand for gold via ETFs.  But undoubtedly just as ETFs have created a multiplier on the way up, they have potential for creating a multiplier on the way down.


Is Eric Sprott Right on Gold? -  USD vs Gold 


Daryl G. Jones

Hedgeye Risk Management Director of Research



CARTER'S: DON'T Build A Position Here

Takeaway: There are a lot of warning signs right now with CRI. The company has been executing, but PLEASE, don't build a position here.

This note was originally published October 24, 2013 at 16:40 in Retail

Editor's note: This is a complimentary research report from Hedgeye Retail Sector Head Brian McGough. Click here for more information on how to subscribe to our research.


CARTER'S: DON'T Build A Position Here - carters


We didn't like Carter's (CRI) quarter one bit.


In fact, with the exception of good growth in e-commerce, there wasn't a single thing we liked.   To be clear, we were negative on this name last year,  and though we were mostly right on the model, we couldn’t have been more wrong on the stock.  Though we continued to have a serious bias against the sustainability of the business model, we kept our discipline and (painfully) threw in the towel on our short. Congratulations to all of you that rode this horse from $50 to $75 over the past year.  Lesson learned for HedgeyeRetail.


All of that said, there's no shortage of reasons for selling your position today. Consider the following…


1. Here's the elephant in the room: CRI  borrowed an extra $400mm in debt to repo $454mm stock (thus far). We ordinarily would give a company credit for such a buyback, but to execute on such a big program when Margins are at peak, your stores are comping down, inventory is building, and your stock is at an all-time high???   We're sure it went through an exhaustive corporate governance process, but quite frankly, we're surprised that any board let it get past the goalie.


2. At face value, the growth algorithm looks good -- until you get to SG&A. On a GAAP basis, earnings were down for the second quarter in a row. We know no one cares about GAAP anymore, but hey, it's the REAL earnings of the company.  Even excluding all special charges, earnings only grewby 9.5% -- well below the rate of revenue.


3.  Wholesale Carters was the star. Kinda.


4.  Carter's Retail put up slammin' revenue numbers as well -- up 16% in aggregate, but 8.9% when we exclude e-commerce.  The comp was up only 0.5%. But get this…they're on track to open 66 new stores for the year. Can someone explain to me why a company is growing 14.5% square footage while its stores are not comping. This is a little reminiscent of Coach (but not as pathetic).


5.  As good as a 15% retail top line number is, it's hard to get excited about it when EBIT grows 500bp slower.


6.  Dot com looked really good for CRI, but keep in mind that its still only 7% of brand sales. Other premium brands are 2x that rate. The good news for CRI is that the new DC in Atlanta will help keep this growth rate in gear.


7.  In wholesale Carters, the Brand printed 6.4% EBIT growth on a whopping 15.6% top line performance.  Clearly it did not play the promotional game wisely this quarter. The company noted an ad shift into the quarter, as well as some air freight expense. If we assume that all of this  a) actually happened, and b) was about $7mm, then margins were about flat versus last year.


8.  Osh Kosh Wholesale: Down double digits for the fourth quarter in a row, with operating profit clocking in at a whopping $2mm. In fact, if you add up all the EBIT generated by Osh Kosh Wholesale over the past five ears, you come up with an embarrassingly low number -- $15mm. It's not getting better.


9.  Retail Osh Kosh put a better foot forward by NOT shrinking its revenue base for the first time in 8 quarters.  That said, it was entirely due to e-commerce, as the base stores comped down by 4.3%.


10.  Here's a comment we don't get...

Management: "We continue to see strong demand for our brands in international markets. Our growth in the quarter was largely driven by our business in Canada. The decline in earnings reflects the start-up costs in Japan."

Hedgeye: Why don't we get it!  Comps were -3.6% in Canada, -6.4% for Bonnie Togs, and -1.3% in the co-branded stores (the latter is billed as CRI's saving grace in Canada).



CARTER'S: DON'T Build A Position Here - brian1

 CARTER'S: DON'T Build A Position Here - CRI Sigma


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