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INVESTING IDEAS NEWSLETTER

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

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

 

*Please note we have removed TROW from Investing Ideas.

 

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 - Economy cartoon 04.15.2014 

IDEAS UPDATES

CCL –  Hedgeye gaming, lodging and leisure sector head Todd Jordan likes the stock of Carnival Cruise Lines (CCL). Jordan and his team continue to hear agent tidbits of good volumes but there also appears to be discounted pricing for summer 2014 sailings. Stay tuned for results from our proprietary pricing survey next week, which should provide more insight.


DRI – Hedgeye restaurants sector head Howard Penney maintains his bullish stance on Darden, parent company to restaurants including The Olive Garden and Red Lobster among others. In an exclusive HedgeyeTV video, Penney calls DRI a “generational buying opportunity.” Penney says DRI is an unconventional long because the management team needs to be replaced before investors can really make money on the stock.
 

HCA –  Hedgeye healthcare sector leader Tom Tobin still likes the prospects for HCA Holdings. He sees a potential recovery in orthopedic case volume, such as knee replacements, which will benefit hospitals such as HCA.


HOLX ­­– Hedgeye healthcare sector leader Tom Tobin remains bullish on Hologic. He has reached out to his clinical contacts in the field to get more insight regarding DBT (Digital Breast Tomosynthesis), which is a relatively new breast-screening technology that is important to driving HOLX revenue. Much of those field responses indicate that DBT take-up is continuing to grow and supports Tobin’s thesis that DBT adoption will accelerate meaningfully in the next two to three years.

 

LM –  The mighty BlackRock (BLK) reported earnings on Thursday this past week essentially validating our view on why we think investors should be buying Legg Mason (LM) from an intermediate to longer term standpoint. BlackRock is the largest asset management company in the world with $4.4 trillion in assets-under-management (AUM) and thus has a very informed view on emerging trends within the asset management industry. On the first page of its earnings press release this week, BLK highlighted that it is seeing a noteworthy development within the pension fund market, as now “at funded” pensions are rotating from formerly appreciated asset classes (i.e. selling stocks after the recent 5 year run in equities) and are moving into other asset classes including fixed income (the bond market was down 2% last year with the first loss in 14 years so technically it underperformed and should be rotated into) and also alternatives (the hedge fund business is gaining share of pension fund asset allocation versus traditional plain vanilla equity and fixed income products). Legg Mason should be the prime beneficiary of this emerging trend with the highest percentage of institutional assets of the public asset managers at 71% of its AUM versus a group average of 42% with also a large exposure to fixed income at 52% of AUM versus the group average of 33%. Legg has also repaired its fixed income performance over the past 5 years which suffered during the 2008-2009 credit crisis with over exposure to U.S. corporate credit.

 

INVESTING IDEAS NEWSLETTER - lm


LO – Lorillard outperformed its Big Tobacco peers rising ~ +2% week-over-week (as of Thursday intraday) and traded above the Consumer Staples sector (XLP) that rose ~ +0.5% w/w.   

 

This week LO publically praised legislation signed into law in Kentucky that will bar minors from buying electronic cigarettes. We see this announcement as an example of the responsibility Big Tobacco is taking around the regulation of e-cigs, despite still no action from the FDA to regulate the category.    

 

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 at 1 p.m. EST. 

 

OC – Owens Corning Q1 2014 earnings call is set for Wednesday April 23, 2013 at 11am EST. Beating or missing estimates for Q1 will not change our bullish stance on Owens Corning. The chart below is from a 2014 investor presentation of Owens Corning’s Insulation EBIT Margin. With the margin roughly a third of its historic average, it suggests potential upside for OC’s most important segment as commercial and residential buildings catch-up to state-wide building codes. The International Energy Conservation Codes or IECC notes the majority of states of both commercial and residential buildings are at 2009 IECC energy efficient levels. So as homeowners and companies look to cut energy costs insulation is among the first materials installed.

 

INVESTING IDEAS NEWSLETTER - oc

 

RH –  After 5 years of store consolidation, Restoration Hardware’s square footage is set to start to grow in a material way starting next month with the opening of the 6th Design gallery in Greenwich, CT and the completion of the New York – Flatiron remodel. We expect to see square footage grow from 800 thousand in 2013 to 2.5 million by 2018. This square footage growth and new product introductions will be the key drivers for the $3.5bil incremental revenue growth over that time period.

 

Here’s a quick update on RH’s real estate initiatives. The company will open 4 design galleries in 2014, the aforementioned spaces in Greenwich and New York, one on Melrose Ave. in Los Angeles, and a 65,000 sq. ft. store in Atlanta towards the end of the year. For 2015, we are modeling 9 new design gallery locations – 3 have been announced (Chicago, Denver, and Las Vegas). In the outer three years we see an incremental addition of 33 new additions taking the total design gallery doors to 51 by 2018.

 

ZQK –  Quiksilver CEO Andy Mooney was brought in to spearhead the turnaround in early 2013, and the company made sure that he was properly incentivized to expedite that process. As part of his compensation package, Mooney was granted 2 million restricted stock units (RSU’s) that would vest under two conditions. 1) If the stock price, for a period of 30 consecutive days, equals or exceeds $12.50, or 2) if the company is acquired at a price that meets or exceeds $9.28. That means Mooney would stand to gain almost $20 million if the company were to be acquired above the $9.28 threshold.

 

Two companies that we have identified as possible acquirers are VF Corp. and Kering. We discussed the possibility of a VF acquisition a few weeks back, and added Kering to the watch list after the announcement that Kelly Slater was moving to the brand and subsequent comments by the French company’s CEO that he was looking to acquire sports/lifestyle brand portfolio to round out his company’s portfolio which already consists of Puma, Volcom, Electric, Cobra golf, and Tretorn. 

 

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Click on each title below to unlock the institutional content.

 

The Casual Dining Dilemma

Restaurants sector head Howard Penney raises the question: Does the casual dining industry have pricing power?

 

INVESTING IDEAS NEWSLETTER - cd2

 

Yelp: Does Europe Even Matter?

Internet & Media director Hesham Shaaban extends his Total Addressable Market analysis on YELP to Europe to prove that headwinds in the United States are too severe for international to compensate.

 

INVESTING IDEAS NEWSLETTER - yelp

 

Tobacco Industry Already Prepared for FDA E-Cig Recommendations

A recent report calling to keep e-cigarettes out of the hands of children already echoes leaders’ expectations within the tobacco industry and desires for the category.

 

INVESTING IDEAS NEWSLETTER - e cigarette


HedgeyeTV: This Week's Top Three Videos

Yelp

Hedgeye internet and media analyst Hesham Shaaban remains bearish on Yelp on a long term TAIL duration for two reasons: the company's flawed business model and major macro headwinds that the firm faces.

Macau 

Hedgeye's gaming, lodging and leisure team talks about possibly better times for Macau's casinos and potential strength in some global hotel stocks.

 

bank of america

Hedgeye's financials team Josh Steiner and Jonathan Casteleyn take a deep dive into Bank of America's earnings, and also look at broader trends in the banking industry.

Learn More about Hedgeye.



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Hard Core Capitalism

This note was originally published at 8am on April 04, 2014 for Hedgeye subscribers.

“He is striking at everything. I am afraid of this man.”

-Thomas Gibbons, 1822

 

That’s the opening line to Part One (titled “Captain” – 1794-1847) in the latest brick I’ve cracked open, The First Tycoon The Epic Life of Cornelius Vanderbilt, by T.J. Stiles. If you’re into hard core capitalism, this is where it’s at.

 

That’s not to say I’m not into Grubhub.com (GRUB) going public this morning (I couldn’t make that up if I tried)… or any company that doesn’t make any money for that matter. If the public is dumb enough to pay 15-20x revenues for companies with no earnings, there is a precedent for that. #1999

 

Hard Core Capitalism - grubhub

 

There’s also a longstanding history in America of hard core capitalists making hard core profits. Admittedly, I have a confirmation bias towards them. As William Gibbs McNeil said about Vanderbilt in 1840, “I’d sooner have him with us, than against us.” Amen to that.

 

Back to the Global Macro Grind

 

As the European Central Bank (ECB) reduces the size of its balance sheet, Yellen’s Federal Reserve continues to ramp up the size of hers. At $4.2 TRILLION, I was perusing the Fed’s balance sheet last night. It was up another +$9.5B wk-over-wk, and +$1 TRILLION year-over-year. Socialism, baby!

 

Is that a bad word?

 

Or should we use statism? What else would you call an un-elected agency (the Federal Reserve), whose mandate is to get tighter as inflation accelerates and the economy expands, getting looser for the sake of the 1%-10% of the population that benefits from asset price inflation?

 

Economic expansion?

 

Yes. Newsflash:

  1. The US economic expansion is now going into its 59th month!
  2. Pardon? Yes. Take out all the spew politicians have been whining about since missing the buying opp of a lifetime in 2009.
  3. And focus on what actually happened. In gravity speak, this is called a cycle (see #history table in today’s Chart of The Day)

Oh, and what you’ll note in the historical data is that the average US economic expansion following a recession is also … drum-roll… 59 months!

 

In other words, during this epic expansion, the Fed:

  1. Didn’t see any inflation, at the all-time-highs in US energy, food, education, rent, etc. inflation – so it didn’t see a need to tighten
  2. Won’t ever see inflation, until we have another inflation crisis
  3. And is now tapering (late) into what will likely be a US consumption growth slowdown

Yep, that last part is the least consensus of everything else I wrote, primarily because my conclusion is embedded in a forecast that isn’t consensus – i.e. that US #InflationAccelerating is finally slowing US consumption growth.

 

Hard core Keynesianism, this view is not.  And what do you do if you share it? Do more of what you’ve been doing for 3 months:

  1. Buy Inflation (Short US Dollars, and Buy Commodities and/or anything with pricing power)
  2. Buy Bonds (because the Fed has 0% credibility and/or intention to fight inflation)
  3. Buy Foreign Currencies who has monetary policies that are building credibility

That’s why I feel pretty good about selling US Buy-The-Damn-Bubble #BTDB Growth Equities (everything we liked last year), booking those gains and plowing them back into the former Bernanke Bubbles (Food, Gold, Utilities, REITS, Bonds, Emerging Markets, etc.) that blew up in 2013.

 

The inflation topic drives people who take the Fed’s word for it (that there is no inflation) squirrel. But those are mostly people who are educated with a serious level of Western Academic Groupthink and don’t think for themselves. If you ask objective people, they know the government is lying to them.

 

We did a poll @Hedgeye.com yesterday (powered by Polstir, here) that asked a very basic question: Do you trust the government’s inflation numbers?

 

87.5% responded no.

 

Yes Mr. and Mrs. Big-Government-Made-Up-Data, Hedgeye is 6 years older (with much wider distribution) than when we called you out on the last inflation-slows-growth cycle reality (our US consumer recession call in early 2008). We’ll be striking at everything you say going forward. Be afraid of the common man.

 

Our immediate-term Global Macro Risk Ranges are now:

 

UST 10yr Yield 2.66-2.82%

SPX 1868-1899

USD 79.83-80.72

EUR/USD 1.36-1.38

Gold 1273-1318

 

Best of luck out there today,

KM

 

Keith R. McCullough
Chief Executive Officer

 

Hard Core Capitalism - US Recession Cycle

 

Hard Core Capitalism - Virtual Portfolio


CMG: Building Market Share

Takeaway: We remain bullish on CMG, as it continues to take share in an ultra-competitive environment. Recent comp & traffic numbers are unheard of.

Comps: CMG delivered +13.4% comp growth in the quarter, beating estimates of +8.8%.  Management upped its FY14 comp guidance from low to mid-single digit growth up to high-single digit growth.  Revenues of $904.163mm came in 3.5% higher than consensus estimates.

 

Margins: Despite accelerating top line trends, margin pressure continues to squeeze profits.  Food costs accounted for 34.5% of revenue, up nearly 150 bps YoY, due to higher beef, steak, avocado and cheese prices.  Restaurant level margins came in at 25.9%, down 40 bps YoY.  G&A expenses accounted for 7.4% of revenue in the quarter, up 130 bps YoY due primarily to higher non-cash compensation exp. and litigation costs.  Operating margins came in at 15%, down nearly 150 bps YoY.

CMG: Building Market Share - 4 17 2014 4 05 37 PM

Earnings: EPS of $2.64 came in light, missing consensus estimates by approximately 8% as the aforementioned margin pressure weighed on profits.

 

Analysis: While the majority of the restaurant industry continues to blame poor weather for disappointing comps, Chipotle delivered +13.4% comp growth primarily on the back of traffic gains.  Chipotle continues to take market share in an increasingly competitive environment.

 

Declining margins are a concern, but are not insurmountable.  Food inflation is weighing heavily on the cost of sales line, as beef, steak, avocado and cheese prices continue to surge.  In order to combat this pressure, management announced they will take a mid-single digit price increase in 2H14.  This should help mitigate food costs, which are expected to run above 36% of revenues (excl. any price increase) for the full-year.  Management indicated they have ample pricing power and we tend to agree.  In our view, Chipotle’s loyal and growing customer base will be willing to look past a $0.24-0.40 increase in the price of a burrito.  People are willing to pay for a premium product. 

 

Even with this margin pressure, Chipotle still operates a best in class business model and the demand for the product appears as strong as ever before.  Faster throughput contributed meaningfully to the quarter, as restaurant saw an average increase of seven transactions at both peak hour lunch and peak hour dinner times.  A unique and differentiated marketing/advertising approach helps keep CMG top of mind and continues to drive incremental traffic.  Catering, though immaterial, continues to be a potential sales driver.  We expect this to pick up steam in 2Q as graduation season commences. 

 

CMG typically trades up on strong comps post-earnings, even when EPS misses, but an uncertain margin outlook has weighed down the stock.  We believe same-store sales momentum and a price increase will effectively mitigate oncoming pressure, leading CMG to deliver +20% EPS growth over the next two years.  Longer-term, international, ShopHouse and Pizzeria Locale continue to provide CMG with a strong growth runway.

 

Catalysts:

  • CMG continues to poach market share from competitors as same-store sales and same-store traffic momentum persists.
  • Marketing/advertising drives incremental traffic as the “Better Ingredients” campaign rolls out to 30 different markets in 2Q.
  • Catering ramps up.
  • Management accelerates its share buyback program.

Risks:

  • Increasingly difficult comps for the remainder of the year.
  • Food costs continue to surge.
  • Consumers aren’t as receptive to a price increase as anticipated.
  • Margin pressure erodes earnings.

 

CMG: Building Market Share - cmg2

 

CMG: Building Market Share - cmg3 

 

 

Howard Penney

Managing Director

 

Fred Masotta

Analyst


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