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INVESTING IDEAS NEWSLETTER

Takeaway: Current Investing Ideas: CCL, DRI, HCA, HOLX, LM, LO, OC, RH, TROW and ZQK

Below are Hedgeye analysts' latest updates on our TEN current high-conviction investing ideas and CEO Keith McCullough's updated levels for each.

 

We also feature three research notes from earlier this week which offer valuable insight into the market and economy.

 

INVESTING IDEAS NEWSLETTER - levels

Trade :: Trend :: Tail Process - These are three durations over which we analyze investment ideas and themes. Hedgeye has created a process as a way of characterizing our investment ideas and their risk profiles, to fit the investing strategies and preferences of our subscribers.

  • "Trade" is a duration of 3 weeks or less
  • "Trend" is a duration of 3 months or more
  • "Tail" is a duration of 3 years or less

HEDGEYE CARTOON OF THE WEEK

INVESTING IDEAS NEWSLETTER - Lemmings04.07.2014sm 

IDEAS UPDATES

CCL – All cruise lines operators, including Carnival, took a hit this past week in a down market.  However, CCL’s performance (-2%) fared better than that of its peers, RCL (-5%) and NCLH (-8%).  There were several bad publicity reports out this week for CCL:  1) couple of operational problems on Carnival Pride and P&O Oceana (CCL brand); 2) AIDAprima delivery to be delayed by 6 months; 3) Norovirus on Crown Princess (CCL brand); 4) Harris poll showed a decline in cruiser sentiment following norovirus cases in early February. 

 

While these cast a negative light on CCL, ultimately, investors care about what’s going on with Caribbean pricing.  Based on our latest proprietary pricing survey, the large capacity increase in the Caribbean is wreaking havoc with pricing for RCL and NCLH.  We will get more color on how CCL pricing is tracking for Summer 2014 in the week of April 21. Stay tuned.
 

DRI – There is no news to report this week pertaining to Darden.  We remain bullish on the stock and are closely monitoring the ongoing saga between management and activist shareholders. 
 

HCA – Healthcare Sector Head Tom Tobin reiterates his bullish thesis on HCA Holdings. He has no update this week.
 

HOLX ­­– Healthcare Sector Head Tom Tobin reiterates his bullish thesis on Hologic. He has no update this week.
 

LO – Lorillard traded roughly flat on the week, about in line with the move in Consumer Staples (XLP).  This week LO also moved ahead of WFM for the #220 spot in the S&P500 ranking by market capitalization.

We continue to believe LO will grind higher on advantaged menthol fundamentals, limited regulatory risk, and a growth engine in blu e-cigarettes.  The company will announce Q1 2014 results on April 24th.
 

OC – Owens Corning Q1 2014 earnings call is set for Wednesday April 23, 2013 at 11 a.m. EST. Beating or missing estimates for Q1 will not change our bullish stance on Owens Corning. In the chart below is U.S. Public Non-Residential Construction Spending YoY %.

 

In terms of a construction cycle, public construction spending lags residential by up to two years. Non-residential falls somewhere in between the two. People just tend to remodel and fix up their homes before that office or the dreaded DMV receive attention. Despite public construction flailing along the bottom the past four years it is beginning to show signs of stabilizing as state and local budgets approve.
 

INVESTING IDEAS NEWSLETTER - OC
 

RH – The setup: you have a five minute meeting with the Gary Friedman, CEO of RH. Here are two of the four key critical uncertainties that we think are relevant to the investment thesis today.
 

  1. Logistics Network -- Today vs. Tomorrow. One of the biggest Bear arguments against RH is its inability to ship product on time and in the right quantity (i.e. a 6-piece living room order could be delivered in three shipments over 12-weeks). That not only delays when the company can collect revenue, but could also impact customer attitude toward the brand and its ability to meet delivery expectations. We have no doubt that RH could work through these issues today, especially with its newly upgraded fleet of DCs. But the reality is that RH has been shrinking its square footage base for the past six years. Starting next month, it goes on an explosive run of growth in square footage – from 800k square feet to nearly 3x that amount over a five-year period. So the question here is this…If you are having challenges now as a $1.5bn business over 70 stores and 800k sq feet, how can we be confident that the company can deliver product under a competitive time frame when it is three times the size? Does that mean that instead of having 5 DCs and 7 hubs, it needs to open another 5 mega-regional DCs in the top MSAs? Or another 25 facilities throughout the country? What’s the right answer

    [Note: Though we cannot yet articulate the answer to this question, in our model we assign a capital cost to both the SG&A and capex lines to account for future capital needed to improve shipping capabilities. We give RH about an extra $80mm per year in capex, while we add an incremental $800mm over 5 years in SG&A – both of which are well north of what is expected for RH to continue on its growth ramp.]

  2. What’s the Optimal Store Size?  The size range in RH’s fleet is daunting. It has Legacy stores at 8,000 feet, Design Galleries at 25,000, and the Next Gen Design Galleries as large as 60-70,000 sq. feet (Atlanta, Vegas). So far, the company has learned that ‘bigger is better’ meaning that the store productivity on a large box eclipsed the Legacy productivity.  The math is such that there are 8,000 foot stores operating at $700/sq ft, or $5.6mm annually. But then there are stores like Houston at 22,000 feet that are doing about $2,500 per foot. Yes, that’s about $55mm per store. And that’s not a pipe dream…that’s proven.

The questions then, are a) Is it realistic for some of these Next Gen Design Galleries to be running at over $100mm per box? b) At what size do you think you hit a point of diminishing returns with box size? c) You have 65 Legacy stores in the fleet that you indicated you’ll chop away one by one over time. But the reality is that many of these are solid real estate locations, and your rent terms are better there today than if you were to find new space on your own. Why not keep most of these stores open, and use them to focus on a single category – RH Kitchen, RH Baby & Child, RH Furnishings, RH Whatever…

 

TROW & LM – Both asset managers T Rowe Price and Legg Mason are set to report earnings over the next several weeks with TROW releasing numbers on Thursday April 24th and LM printing results on Tuesday April 29th. In an institutional report this week we examined the pricing of both earnings releases as relayed by the options market (essentially the expected stock moves on earnings day can be extracted from pricing in each company’s options series). Both companies options series are relaying fairly low expectations for the earnings print which can set up a good near term rally in the stocks with even a slightly better than expected print.

 

TROW has been screening well all quarter in several private surveys as having had good mutual fund inflow which should produce a good earnings result. LM conversely with very high short interest and very low stock ratings from the Street won’t need to do much to impress investors.

 

We think the LM story gets exciting in the latter part of this year and into 2015 with its repaired fixed income performance and by that time will be a de-risking theme from equities by institutions. The steadiest business line in JP Morgan’s earning report on Friday was Asset Management which was one of the few segments that had a revenue increase year-over-year. We expect the asset managers in this current volatile market to be more stable stocks than the other more transaction oriented financials.   


ZQK – Quiksilver remains one of our top long ideas. While shares have been under pressure lately, we still see over $1 in earnings power and a stock price approaching $20. The key metric in this equation is the top line. Revenues have been on the decline for five straight quarters and we expect a meaningful inflection starting in 3Q as the company starts to bear the fruits of its cost cutting initiatives, SKU rationalization, and streamlined design process.

 

But, this is more than just a cost cutting story. We see revenues growing to $2.5 billion by 2018 from $1.8 billion in 2013. The big drivers we’ve identified and laid out are footwear, emerging markets, and China. This also means that sales trends in existing markets will stabilize and reaccelerate. Our survey work shows that Roxy, Quiksilver, and DC footwear are extremely relevant to the core consumer even after nearly five years of extremely limited marketing spend. We expect the reallocation of marketing dollars to help reignite the brands as new, more focused product, rolls out for the fall.

 

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Click on each title below to unlock the institutional content.

 

McGough: My 3 Questions for Target’s CEO

Retail Sector Head Brian McGough has three questions for Target’s CEO and explains why TGT is one of the better shorts in retail.

 

INVESTING IDEAS NEWSLETTER - Target Dog

 

Walmart’s ‘Organic’ Push Is Bad News for These Stocks

Given that Walmart is the largest retailer in the U.S., their latest move stands to create winners and loser across both organic and non-organic markets.

 

INVESTING IDEAS NEWSLETTER - walmart organic

 

Tobin: One Way to Play #Consumption Slowing

Healthcare Sector Head Tom Tobin takes a look at a key subgroup highly levered to one of our new Macro Themes.

 

INVESTING IDEAS NEWSLETTER - iStock 000009322347XSmall



THE WEEK AHEAD

The Economic Data calendar for the week of the 14th of April through the 18th of April is full of critical releases and events.  Attached below is a snapshot of some (though far from all) of the headline numbers that we will be focused on.

 

THE WEEK AHEAD - week


Poll of the Day Recap: Timber! For the Stock Market?

Takeaway: At the time of this post, the majority went to 53% saying TIMBER! and 47% voting HICCUP.

Poll of the Day Recap: Timber! For the Stock Market? - 4

 

The “You-Know-What” hit the fan again today as continuing weakness in the tech sector spread to the broader market. The Nasdaq was clearly the biggest loser this week falling roughly 1% and on track to end the week basically 3% lower.

 

We are still banging the non-consensus bubble warning drum here at Hedgeye. But we wanted to hear your thoughts in today’s poll: Has the stock market correction arrived OR is this just a hiccup?

 

While the voting was virtually neck-and-neck in the morning, the tide began to turn more bearish as the market resumed its fall later in the day. At the time of this post, the majority went to 53% saying TIMBER! and 47% voting HICCUP.

 

While it was indeed a close poll, voters who think the stock market correction has arrived (TIMBER!) had the most to say:

 

  •  “I voted Timber because S&P 500 revenues are pretty flat year over year. Not much organic growth other than the Social Media bubble. The Fed continues to devalue the dollar and Russia and China are stocking up on gold. NASDAQ has only [gone] from about 1300 to over 4000 since 2009. Take a look at a chart of the 2000 internet bubble.”
     
  • “SPX breaks key support at open; PPI finally confirms (for g-men) some inflation; earnings this qtr will spread fear; perfect time of year for a welcome drop.”
     
  • “I call Timber, but with a long, slow ride to the bottom, wherever that may be. Other trees will hinder the fall. Market conservationists will tie ropes and chains to the tree and declare that no damage has been done. The loggers and the tree huggers will all claim Exceptionalism as their cause. Still, the real, genuine unavoidable truth is that ALL asset classes are mispriced (whether high or low) because there is no genuine market price for money, and no genuine market function for capital allocation. Maybe these things have never truly existed...but in today's planned (and grossly mismanaged) macro environment those fundamental capitalist functions are non-existent. Never fear, however; Mr. Market always has the last word...until the next round of madness.”
     
  • “The market is overdosing on Keynesian drugs prescribed by global central planners.  Japan didn't add more stimuli as beggars hoped for and Yellen and company have the market confused. The technicals are deteriorating.  Also, Kass went long the QQQ this AM. Anyone know if Gartman bought the dip yet?”

Those who believe this is a HICCUP admitted that time will tell; it depends on what the Fed does. And one voter strongly stated, “This is, without question, a hiccup.  Spring and summer acquisition activity in the tech sector will give the market confidence, at least through the summer.”

 

Another HICCUP voter was more cautious, “People will get optimistic, probably within the next week or two, though towards the end of the year, it might turn into a timber scenario.”

 

Ultimately, Hedgeye CEO Keith McCullough put it this way: “Already an 8% ‘correction’ in the Nasdaq that basically no one on #OldWall called for. Give it time, she'll go lower - and consensus will capitulate.”

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Cartoon of the Day: Home to Roost | $QQQ

Takeaway: It's been a rough ride recently for Bubble Chasers.

Cartoon of the Day: Home to Roost | $QQQ - Home to roost sm04.11.2014

 

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Nike Gets Creative, Raises Stakes In SanFran | $NKE

Takeaway: This should help Nike+ reach a wider audience.

Nike Gets Creative, Raises Stakes In SanFran | $NKE  - 3

 

FIRST LOOK AT THE NIKE+ FUEL LAB IN SAN FRANCISCO

  • "Today, Nike opens its Nike+ Fuel Lab in San Francisco, a collaborative work and testing space in the city's SOMA neighborhood designed for selected partner companies to develop products that integrate the NikeFuel system for tracking and measuring activity."
     
  • "The Fuel Lab grew out of last year's Nike+ Accelerator, in which 10 startups were given $20,000 and the opportunity to work in Portland for three months to develop apps and products connected to the Nike+ platform...The inaugural partners include running app RunKeeper, cycling and running tracking platform Strava, and weight loss app MyFitnessPal."

Nike Gets Creative, Raises Stakes In SanFran | $NKE  - chart24 11

Takeaway From McGough: 

Nike has only about 10% market share in the fitness tracker segment. Part of the problem is that fuel points, the key metric for the FuelBand, are meaningless outside of the Nike+ platform. In order to make the device more applicable to the general public, Nike is partnering with established fitness platforms in other core competencies to develop a broader based product. This should help Nike+ reach a wider audience and allow Nike to gain better consumer insight from the + data mine.

 

Editor's Note: This is a complimentary research excerpt from Hedgeye Retail Sector Head Brian McGough. Follow McGough on Twitter @HedgeyeRetail

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WWAV: LONG WHITEWAVE

Yesterday, the stock traded down sharply on news that Walmart plans to sell more organic products.  WWAV is down -10% over the past month, but is still the best performing food stock YTD (+17.8%).  All told, we don’t view the WMT announcement as being disruptive to the overall WWAV story.

 

This is primarily because WWAV continues to offer significant growth opportunities in an industry where they are hard to come by.  In fact, we'd say that WhiteWave is one of the best-positioned companies we have seen in quite some time.  WWAV’s on-trend category, volume growth and earnings growth potential are best in class.  We believe they will be able to deliver high single-digit sales and low double-digit earnings growth for the next few years.

 

As a reminder, WWAV owns six key brands: Silk, Alpro, International Delight, Land O’ Lakes, Horizon Organic and the recently acquired Earthbound Farm.  Through these brands, WhiteWave participates in the health and wellness space and is active in growing categories such as organic milk, plant-based beverages, packaged organic salad and other produce, creamers and liquid coffee.

 

The WWAV business model can produce sustainable high single-digit top line growth (management has guided to sales growth of 7-8% longer-term) and 20% EPS growth for the foreseeable future.  We believe margin expansion will continue, as the company benefits from fixed cost leverage, favorable product mix and increased internal manufacturing capabilities.  As with every company we follow, higher commodity costs could present a headwind but we believe it will be less severe for WWAV than others with a lesser growth profile.

MAC & CHEESE – FROM A RIPPLE TO A BIG WAVE

WWAV is going after Annie's market and is not afraid to talk about it, which is among the reasons we are bearish on BNNY.  WWAV is pushing its Horizon brand into the center of the store, similar to what BNNY is doing with Annie’s brand through its mainline initiative.  To be fair, we don’t know exactly how the Mac & Cheese battle will play out.  What we do know, however, is that WWAV said it aspires to be “maybe bigger than Annie’s” in shelf stable products at some point and will be “fairly aggressive” in pursuing this over the next few years.

GOT SILK?

One of the biggest opportunities for WWAV is to drive Silk usage among new consumers in the category.  We believe household penetration remains low compared its longer-term potential.  Another significant opportunity lies within its U.S. soy yogurt products.  The Silk brand has underperformed the plant-based yogurt category due to an underwhelming consumer proposition.  Later in FY14, WWAV will likely bring its successful soy yogurt technology from Europe over to the U.S.  Concurrently, we expect the company to begin marketing soy yogurt much more heavily later this year and beyond.

ORGANIC MILK

The biggest tailwind to organic milk trends is higher conventional milk prices.  Industry observers believe that higher conventional milk prices will help drive consumers to organic and/or plant based alternatives.  Right now, the conventional milk market is being affected by structural issues, as increased global demand and decreased production continue to push prices higher.  We’d suggest that the conventional milk market must adjust to this “new normal” of higher prices.  This is in stark contrast to organic milk in emerging markets, as demand and, subsequently, price remains muted in comparison.  Structurally higher conventional milk prices could create a situation where consumers shift to organic milk and/or plant-based alternatives, which could become increasingly attractive on a price basis.

EARTHBOUND FARM

The recent Earthbound Farm acquisition is an extremely attractive opportunity for WWAV.  While packaged salad carries a higher risk profile relative to other segments of the company, its growth profile is profound.  Over the last five years, organic packaged salads has posted a +15% CAGR due to very high market penetration.  Nearly every grocer carries an organic packaged salad brand on its shelves, where Earthbound holds a dominant market share that is greater than 50%.

CURRENT GUIDANCE

Given that WWAV is guiding to 7-8% top line growth in organic sales, we view the current EPS guidance of $0.90-0.94 (before a $0.05 headwind from the recently announced JV with China Megniu) as conservative.  WWAV will report 1Q14 earnings on May 9th.

 

 

WWAV: LONG WHITEWAVE - WWAV   EEG

WWAV: LONG WHITEWAVE - WWAV   EV EBITDA

WWAV: LONG WHITEWAVE - WWAV   PE

WWAV: LONG WHITEWAVE - WWAV   ANR

 

 

 

Howard Penney

Managing Director

 

Matt Hedrick

Associate

 

Fred Masotta

Analyst


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