ZQK: Removing Quiksilver from Investing Ideas

Takeaway: We are removing Quiksilver (ZQK) from Hedgeye's high-conviction stock idea list.

Editor's note: Hedgeye retail sector head Brian McGough is removing Quiksilver from Investing Ideas. Please see his note below.


ZQK: Removing Quiksilver from Investing Ideas - Quiksilver LOGO


Conclusion: There’s only one take-away from this quarter for us – and it’s not about lower revenue out of PSUN or ZUMZ. It’s a serious ding to Team Mooney’s credibility. The company’s cavalier attitude towards pushing out revenue and profit targets, its lack of any clearly articulated building blocks of growth (even though we still think they exist), and what we think is lack of accountability to the financial community make it near impossible to tell our story – that was 50% based on management execution – without serious thesis-morph (which we won’t do). As such, we’re taking the black eye and are removing ZQK from our Best Ideas list. Our sense is that this will be an idea worth coming back to in another year as a) revenue growth reaccelerates (which we still think will happen), b) the company finds a way to actually tell what could be an interesting story, and c) it becomes a take-out candidate.  But none of those things will happen in this calendar year. If we get wind that the story is back on track when it is a few bucks higher, then so be it. But we’re not going to change our thesis and narrative just to fit in with where the stock is today.



I’ve been doing this for 21 years, and this is a first for me -- I’m yanking support of a stock AFTER a meaningful blow-up. When a stock I like faces a negative event (it happens to most of us), I like to step away from all the noise, recalibrate long-term earnings power with the stock, and see if it is an opportunity to double down, or best to just walk away.  Usually, we stick with the name. But the problem with ZQK is that the research changed as much, if not more than the stock. This goes far beyond #growthslowing. And we’re definitely not talking about weakness in PSUN, TYLYs or the US ‘teen space’ like so many people are talking about. Basing the investment on that would be nonsense, especially given that the US is only 38% of ZQK’s business. But our problem here is that management is simply not as effective as we thought it was. 


When we first got involved with this name about six months ago, we were attracted to what we thought was a far better management team than a company the size of Quiksilver probably deserved. With seven of the top eight executives coming from high-profile roles at employers like Disney, Gap, Levis, and Nike, we thought they were worth giving the benefit of the doubt on being able to fix this perennially mis-managed company. We did the digging on the individuals as well, and research came back positive. We also conducted extensive consumer research to see if the brands could still be saved. After all, even the best management team can’t fix a dead portfolio. Fortunately, the brands scored far higher than we expected in our surveys, and when it all came together we built up a model that arrived at over $1.15 over a five year time period.


Now, unfortunately, we struggle to get to $0.75, and our confidence level in that earnings power has all but evaporated. A higher discount rate on a lower earnings number is hardly comforting.


There are several factors that concern us. None of them is a smoking gun, but they add up to be enough when 50% of our thesis hinges on a management team….

1)      Lack of clarity surrounding financial plan. We keep hearing about the ‘profit recovery plan’ but there’s so little detail given about how they get there. All we hear about is how the Quiksilver brand is declining, Points of Distribution are shrinking, but yet sales will still accelerate to a high-single digit rate for the next three years. It would be so much easier for us all if they’d step up and say “we think we could add $300mm in revenue in 3-years…a) footwear is $150mm, b) China is $100mm, c) Roxy/Yoga is $50mm, etc…” There’s a problem when we think we can articulate a revenue story better than the CEO of the company (for what it’s worth, China and Footwear combined should account for a $500mm opportunity alone). Clearly, his information is better than ours. So either a) the growth is not there like we think it is, or b) the company will likely never articulate it as such until they hire someone who knows how to run a real IR effort.

2)      Very little sense of urgency.  We concur that this might be just a personality trait on the part of Andy Mooney, but when most CEOs talk about their business, they sound hell-bent on fixing existing problems as soon as humanly possible. Mooney comes across as way too accepting of certain problems as they are presented to the Street (like pricing pressure,  distribution closing, and the eventuality of growing emerging markets ‘over a few years’). Again, this might be part personality, and part lack of being trained by someone who knows investor-talk. But it is what it is.

3)      Should Mooney really have been on Mad Money on the final day of the quarter? Do you think that just maybe he knew the general trajectory of his business on the last day of the quarter? Either that was extremely poor judgment to be on financial media to promote his story when there was such a disconnect with expectations, or he simply did not know the numbers and his day-to-day command over the financials are not what they should be. We’d bet that it was poor judgment.

4)      Lack of accountability to Wall Street. This goes beyond the fact that it’s easier to get a call returned from President Obama than it is from ZQK management. But they don’t seem to acknowledge or care about what it takes to be a shareholder-friendly company. Maybe Apple and Nike have earned the right to be ‘tough to follow’ but a company like ZQK needs to make it as easy as humanly possible for an investor to cover the company.  There appears to be very little humility as it relates to the messages that they send to the investment community about financial targets, and how changing those statements impacts shareholder value. 

5)      There seems to be a new ‘issue’ every quarter. It was DC two quarters ago, then independent wholesale distribution last quarter. And now it’s wholesale apparel pricing.  As it relates to apparel pricing, this means that we won’t see any uptick in this busines until ’15. Our revenue estimates for the back half of ’14 were contingent upon the company’s ability to deliver fast-turn ‘fashion right’ product to wholesale accounts. Those systems, which we were led to believe were in place at the end of 1Q, won’t be ready until at least the 1H ’15. And, management has shown very little confidence in its ability and/or the willingness of retail buyers to invest in the ZQK brands. The company admitted that it was buying shallow into the Fall ’14 and Spring ’15 selling seasons due to fears about sell throughs – which doesn’t help the top line a whole lot.

6)      Product is behind schedule. Footwear pricing initiatives that were slated to take hold in the Fall of ’14 before full implementation in Spring of ’15. The changes which were to be part of the product relaunch in Fall of ‘14 were characterized as a  ‘band-aid’ operation by Mooney, which is hardly what we were led to believe last quarter. The team would have been given a much better reception had they articulated both the issues facing DC from a pricing perspective and the gigantic opportunity in the $45-$50 price range.  Price without product is a no win situation, and we think management failed in communicating this to the street. There still may be tremendous opportunity in the now 200mm canvas vulcanized market – but we had more faith yesterday in ZQK’s ability to deliver than we do today. 


KKD: Concerns Are Overdone

KKD released disappointing 1QF15 results after the close yesterday, hitting bottom line estimates but missing top line estimates by 335 bps.  The company also lowered its full-year adjusted EPS outlook from $0.73-0.79 per share to $0.69-0.74 per share due to unfavorable weather and higher than expected costs associated with ERP implementation and management succession.  “Severe winter weather” negatively impacted on-premises and wholesale sales throughout the company-owned unit base in the Southeast.


Despite the disappointing headlines, KKD continues to look quite healthy under the hood.  The stock’s reaction to the headline is far from surprising.  The stock trades at a premium valuation and continues to have its fair share of doubters, but we believe concerns are overdone.  The truth is, not much has changed to deter us from our bullish thesis.  KKD is still one of the best growth stories in the restaurant space and will continue to leverage its operating model by investing for the future and building out smaller, higher returning stores.  The company plans to grow units by +10% this year and, even with the guide down, adjusted EPS in the +13-21% range.  When the dust settles, we believe people will be willing to pay for this, even if the double-digit comp story has passed.  KKD still has a strong financial profile with compelling unit economics, strong FCF generation and impressive returns on incremental invested capital.


To touch a bit upon executive management succession, we have faith that incoming CEO Tony Thompson will build upon Morgan’s success.  Thompson was a well-respected executive at Papa John’s International, where he served as President and COO and played an instrumental role in the company’s technological innovation and success.  Former CEO James Morgan is transitioning to Executive Chairman and will remain very much involved with the company.

What we liked:

  • Tony Thompson’s first official day on the job as the new CEO and James Morgan’s first day as Executive Chairman.
  • System domestic same-store sales growth of +2.3%.
  • Franchise domestic same-store sales growth of +4.5%, versus expectations of +4.2%, despite a near +12% comp last year.
  • With the new guidance, KKD is still projected to grow adjusted EPS by13-21% in FY15.
  • Plan to grow system-wide store count +10% this year.
  • Continue to focus domestic growth on small factory shops.
  • Expect additional franchisee development announcements over the next several quarters.
  • Repurchased just over $25 million of stock during the quarter and remain committed to returning cash to shareholders through share buybacks.
  • Focused on driving top of mind awareness with the introduction of its ready-to-drink bottled coffee, bagged coffee and K-Cups.

What we didn’t like:

  • Total revenues missed street estimates by over $4 million or 3.35%.
  • Company owned domestic same-store sales decreased -1.5% versus expectations of +1.1%.
  • International franchise same-store sales decreased -2.2%.
  • Guiding down full year adjusted EPS by $0.04-0.05 due to disappointing 1Q performance, higher than anticipated ERP investment and higher than anticipated costs for executive management succession.
  • Wholesale channel revenues, exclusive of the effects of refranchising, decreased -1.6%.
  • Company owned operating income of $4.4 million, down from $5.3 million a year ago.


Howard Penney

Managing Director


Fred Masotta



Weekly placeholders mask weakness, not strength. May fizzles, up only 9%.



Well, we were wrong about May growth.  The Hedgeye model had been stellar up to this point so what went wrong?  There are 3 possibilities: 1) hold percentage was very low, 2) VIP volumes contracting faster than we expected, 3) May was a statistical anomaly. 


We suspect that hold percentage was low in the month but not low enough to justify only a 9% YoY increase in GGR.  Lower VIP volumes likely played a role.  Despite all the negative headlines regarding VIP, we were aware of liquidity issues only with a couple of junkets.  It’s possible the issues were more widespread.  The reality is that one month is a short period of time and even volumes can be volatile month to month. 


In any case, the two “placeholder” weeks this month actually masked weakness and not strength like we saw in April and previous months.  Thus, the last week showed unusually soft numbers but was really a catch up softer than indicated weeks earlier in the month.


Going forward, our model was already projecting a soft June with YoY growth of only 9-11%.  If there is a systemic problem with VIP, there could be downside even to that number.  Either way, June was unlikely to spark the Macau stocks and that’s still the case now.  May was the last near-term positive for these stocks and that didn’t quite pan out.


The Hedgeye Macau model has had a great track record in projecting Macau GGR so we’re absolutely sticking with it.  With that in mind, we move to the sidelines on these stocks.  We remain favorably disposed over the long-term but, lacking catalysts, the stocks could be volatile with downward bias.  Given some unique levers to grow market share, WYNN remains our favorite stock over the near term and given its quality as an operator, might be the safest.  LVS is a close second.

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The Old Smoke Wall

This note was originally published at 8am on May 20, 2014 for Hedgeye subscribers.

“You might as well hit a brick wall as hit that man on the head.”

-Yankee Sullivan


Yep. They used to settle things in this country the old fashioned way. More commonly called “Old Smoke” by NYC’s finest mid-19th century gang members, John Morrissey (Member of Congress), could deflate #MoBro Twitter muscles, fast.


In 1864, a crowd of con men from Manhattan (three-card-monte artists) stepped off the train at Saratoga. Morrissey sauntered up to them with his white flannel suit and quietly told them to leave town. They did.” (The First Tycoon, pg 399)


150 years later, the US stock market’s volume feels like that. After indicting some of our hedgies for insider trading and then going after the machines, central planners are quietly telling people to not trust a game they perpetuated. Evolution, baby.


Back to the Global Macro Grind


It was Victoria Day in my homeland yesterday, so I guess half of America decided to take another Monday off. Who needs to work full-time in an industry where losers who lie and cheat only have to pay a fine with other people’s money anyway?


Total US Equity Volume was down -21% and -41% versus its 1 and 3 month averages, respectively, yesterday. We’ve been hitting you with this DOWN-volume-UP-day thing square in the head this year. Contrary to popular “there’s been no volume for 5 years” thing, the complexion of 2014’s US stock market volume is signaling serious liquidity risk.


To review how we think about liquidity (volume) risk:


  1. Like most things we analyze, rate of change is what matters most
  2. When DOWN-day (down price) volume is accelerating and…
  3. UP-day (up price) volume is decelerating across multiple durations (1 month, 3 month, etc.)

That is not good.


There is a subtlety to analyzing a body of non-linear interconnected risk this way – it’s called hard work. You have to mundanely write down and/or register every day’s PRICE/VOLUME data, then overlay it with implied volatility assumptions across multiple durations.


I know. If you do math, it’s not as complicated as having a strategist tell you “but the market is up.” But we Street fighters on 2.0 weren’t born into just knowing what markets are going to do next, so we have to #grind for each and every data point. #process


“So” what if this PRICE/VOLUME signal is doing this and the market isn’t “up”?


  1. The Russell 2000 bounced on no-volume to yet another lower-high of 1114 yesterday
  2. At -4.3% YTD, the Russell2000 is still bearish on both our immediate-term TRADE and intermediate-term TREND durations

That’s really not good.


And if you dare saunter on over to the three-card-monte-perma-bulls and tell them that the Russell 2000 breaking down is a bearish growth signal, prepare for them to:

  1. Get a little uncomfortable as they rattle off lagging economic indicators
  2. Make a few snide remarks about what the market has done since they missed calling the last 10-20% decline
  3. Then leave the room before you show them a chart of bond yields

*hint (the charts of the Russell growth index and growth-slowing 10yr bond yields are the same)


Once we get rid of those guys, the real debate starts (the one between real-time market price, volume, and data). What is causal to driving slow-growth in both the Russell and bond yields? What’s causal and correlating? What is neither?


Almost 6 months into 2014, what is clearly causal to slowing US consumption growth is #InflationAccelerating. But if you live in the real-world, you already know that. What’s less obvious are the 6 month correlations between currency and commodities:


  1. CRB Commodity Index (19 commodities) inverse correlation to US Dollar Index is -0.77
  2. Soybeans have a 6 month inverse correlation to the USD of -0.75
  3. Corn and Wheat have 6 month inverse correlations to USD of -0.74 and -0.70, respectively
  4. WTI Crude Oil has a 6 month inverse correlation to USD of -0.66
  5. Gold has a 6 month inverse correlation to USD of -0.64

In other words, if you get the purchasing power of The People (USD) right, you’re probably going to get the rate of change in inflation/deflation right. And if you get the slope of inflation right, you’re probably going to get the rate of change in real-growth right.


As to why traditionally trained Keyensian economists who have missed calling every US consumption slowdown since Q1 of 2000 don’t get these very basic points right, no worries. You may as well bang your head against the Old Wall.


Our immediate-term risk ranges are now as follows (we have 12 of Global Macro ranges with a TREND signal overlay in our Daily Trading Ranges product):


UST 10yr Yield 2.47-2.58%

SPX 1865-1897

RUT 1089-1125

USD 79.31-80.21

Brent 108.60-110.45

Gold 1281-1305


Best of luck out there today,



Keith R. McCullough
Chief Executive Officer


The Old Smoke Wall - Chart of the Day

Shoe Shine?

“Dude, look at your dirty shoes – you need a shine!”

-Joe (NYC)


Yesterday I was getting my shoes shined in NYC at one of my favorite spots – on the corner of Avenue of the Americas and 46th Street, right across from the building where I got fired.


Not that I keep track of the when and the why, but I wrote a book about it so it’s out there. Carlyle fired me for being “too bearish” on the US #ConsumerSlowing on November 2, 2007. My 1st son was born on November 7th. And the SP500 dropped 6% by the end of the month.


Yep, risk happens slowly, then all at once. You know when your shoes are dirty too. If you go to my spot, tell Joe I sent you. He’ll chirp anyone who is looking NYC serious with dirty shoes. Within a block, they all look down. They may not like it, but the truth is staring at them from their feet.


Shoe Shine? - boston shoe shine kids archive 66761 600x450


Back to the Global Macro Grind


Our preferred US Equity Growth index to be short of in 2014 remains the Russell 2000. In addition to being down -0.5% on Friday, it dropped another -0.7% yesterday to -3.1% YTD.


BREAKING: SP500 hits all-time highs –CNBC


Yep, as bond yields crash YTD (peak-to-trough decline in the 10yr Treasury Yield = 20%) and the Russell delivers negative returns, the world’s most consensus short position (SPX Index + E-mini) hit another new high on no volume yesterday. #hooray


Whatever you do, don’t look at your shoes yet.


Total US Equity Market Volume was -28% versus its 3-month average (and the average continues to crash!) and the US Equity market’s breadth (advancing vs. decline stocks) was negative yesterday too (46% gained in price, 50% declined). #dirty


But, but, you have to buy the SP500 … because it’s up, right?


As long as you buy SPX vs short Russell (IWM), I’m into that. From a risk Style Factoring perspective, the SP500 is not the Russell:


  1. SP500 has plenty of #InflationAccelerating components (like Energy and late-cycle Industrial companies taking price)
  2. SP500 has many more slow-growth #YieldChasing components (Utilities, REITS, Telecom, etc.)
  3. SP500 has way more consensus short sellers who tend to short low and cover high


Like the FTSE in the UK, the SP500 is much more multinational too. If you want the pure play on short US domestic growth, it’s the Russell.


While there’s no doubt that it’s a lot easier to call the macro game from the seat I have today than the one I used to be in, that doesn’t mean that market truths cease to exist. #OldWall hasn’t been there to help coach Portfolio Managers through US growth slowdowns. We have been.


Being right in an environment with Rising Variance at both the country and sector level gets easier if you know the macro economy we are in. With US #InflationAccelerating perpetuating US #ConsumerSlowing, here are the Top 3 US Equity Sectors you still want to be long:


  1. Energy (XLE)
  2. Utilities (XLU)
  3. REITS (VNQ)


To reiterate the Sector Style Factors you do not want to be long:


  1. Consumer Discretionary (XLY)
  2. Housing (ITB)
  3. Financials (XLF)


If you leave being US Equity market centric (life is easier that way), buying currencies and stocks in countries who had what the USA had last year (#StrongCurrency + #RatesRising and inflation deflating), current equity markets we still like on the long side are:


  1. United Kingdom (EWU)
  2. India (INP)
  3. Brazil (EWZ)


In addition to being long Bonds (TLT), Inflation Protection (TIP), and Commodities in 2014, it’s what you aren’t long when growth slows (bubble multiple stocks) that has made all the difference too.


My call wasn’t consensus in November 2007, and it wasn’t in January of 2014 either. While we need to be loud about seeing something that we don’t think the Street is paying attention to, we don’t want that to feel dirty to you. We want to help augment your process and keep your shoes shiny.


Our immediate-term Global Macro Risk Ranges are now:


UST 10yr Yield 2.42-2.57%

RUT 1089-1155

VIX 10.94-13.59

USD 80.05-80.75

British Pound 1.67-1.69

Brent Oil 108.42-110.76


Best of luck out there today,



Keith R. McCullough
Chief Executive Officer


Shoe Shine? - SPX

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