KSS – Why We Think It’s A Short

Takeaway: Here are some of the more controversial slides from our 60-slide deck from last week on why we think KSS is a structural short.

Last week we hosted a conference call to review our 60-page slide deck as to why we think KSS is a short. If you’d like to listen to a replay of the call and download the full materials, please click the link below. We picked out eight slides below that are among the more controversial.


Replay Link: CLICK HERE

Materials: CLICK HERE


Point #1: Expectations Too High

Yes, near-term numbers look doable given several tailwinds facing all retailers. But one we get past this year (only four months away) we think KSS numbers will start to come down materially. The consensus has earnings growing 10% next year, while we think they will be down nearly 10%. Then they’ll be down again, and again, and again. Ultimately, once we’re past 2014, we don’t think that KSS will earn $4 again until the tail end of the next economic cycle.

KSS – Why We Think It’s A Short - kss1



Point 2: Losing Share At A Faster Rate

It’s no secret that department stores are losing share of wallet (3.5% of Retail Sales vs 10% a decade ago), but KSS is losing share within that context. The blue line in the chart below shows KSS’ share gain of the department store space. The first big bubble – from 1Q09 to 4Q10 – came about 3-years after a meaningful square footage growth spurt. That’s when the stores began to hit the sweet spot of the maturation curve. Then the next bubble came a little over a year later when KSS gained what we think (based on our surveys) is $1bn in share from JCP. Our latest survey shows that about $150mm has shifted back to JCP – but that still leaves $850mm at risk for KSS. The punchline is that after gaining share of this space every single quarter since its inception, KSS is now a net share loser.

KSS – Why We Think It’s A Short - kss2



Point 3: This Model Is Broken

There’s no square footage growth – at all. Productivity of $210/ft in brick and mortar stores is trending down. E-commerce is the only growth engine, but unfortunately it is the lowest margin business at KSS by a country mile. As such, gross margins are structurally headed lower. SG&A can’t be cut in line with the gross profit erosion. D&A was just lowered from $950mm to $900mm – which is stunning in itself. That’s not likely to go down much further. Cash flow still remains healthy enough to buy back 7% of the stock this year. Buy with lower net income, we think that repo/financial engineering gets cut by better than 50% for the duration of the model. EBIT should be down 5-8% each year, with share count making up about 3% of the gap. Net/net = EPS declining every year.  

KSS – Why We Think It’s A Short - kss3



Point 4: Store Productivity Bifurcation

Sales per square foot have been flat for the past four years, but that is only if you include e-commerce. Brick & Mortar productivity is $210, and is at the lowest rate we have ever seen it. There is absolutely no valid argument we can find that this turns around – particularly given that JCP is sitting at just $108 in productivity and has KSS right in its sights. We think those two will converge over time.

KSS – Why We Think It’s A Short - kss4



Point 5: New Brands – Juicy and Izod

This topic absolutely dominates the information flow around KSS. We all know that Juicy Couture and Izod are now available at KSS. That said, our consumer survey shows Kohl’s purchase intent is down year/year, while retailers like JC Penney and Macy’s are up meaningfully. So we know about the brands – but consumers might not know, or might not care. Nonetheless, let’s keep in mind that there’s noise around new brands EVERY year at Kohl’s. Take a look at the graphic below.  Could this years’ additions be better than last years? Possibly. But keep in mind that Izod and Juicy are not exclusive. Izod is all over Macy’s and JC Penney’s. Juicy is in the process of growing distribution through new owner Authentic Brands.  To get a good read you need to quantify the impact (see next exhibit).

KSS – Why We Think It’s A Short - kss5



Point 5b: Quantifying Juicy and Izod

We know that these brands occupy 525 sq ft and 700 sq ft, respectively, inside the average KSS box. That’s 1.42% of KSS’ total square footage. Now…it can’t just create space out of nowhere, which means that it needs to take out product that is underperforming – but is still productive. Assuming that these brands generate $225/ft in productivity, and that it is replacing private label brands that are doing $110 per foot in the same space, we build up to about $250mm in incremental sales in another two years. That’s about 1.3% accretion to sales, but it comes at a lower margin as these national brands carry lower profitability than the portfolio as a whole. The bottom line = it’s going to take a lot more than a couple of mediocre brands to salvage KSS’ top line.

KSS – Why We Think It’s A Short - kss6



Point 6: Structural Margin Decline

Gross margins on KSS’ e-commerce business run about 1,200bp below the store-level margins. Some people are hoping/banking on a margin rebound as KSS did not seemingly benefit from the same tailwind the rest of the group has over the past five years. The truth is that it has. Without that tailwind we’d be looking at KSS with margins near 5-6% today. The industry tailwind was masked by the massive growth in KSS’ e-commerce business. In fact, from ’05-’13 KSS put up the highest growth rate of any ecommerce business in the US throughout all of retail. But as this business continues to grow 15-20% annually (the only line item to grow aside from SG&A) it naturally depresses aggregate GM% by 30bps per year. Those are margin points that this model can’t afford to lose.

KSS – Why We Think It’s A Short - kss7



Point 7: Keep An Eye On KSS Credit

Many retailers have, or maintain, credit cards. It’s a solid tool to keep customers and incentivize them to spend more. But our consumer survey suggests that 18% of KSS shoppers have a rewards card. But more importantly, we know that 57% of purchases are made by that card. That is a simply staggering figure from where we sit. Three years ago KSS shifted its partnership from Chase to Capital One. But median credit scores for Chase customers range between 700-750, which are optimal for a mid-tier retailer. But the 700bps in card penetration that KSS saw under Capital One came at a median credit score of 600-650. Basically, this tells us that incremental sales growth is likely coming from more marginal consumers. This is not exactly a smoking gun on the short side, but taken in context with the other pressures we see to the model, it certainly does not bode well.

KSS – Why We Think It’s A Short - kss8


Cartoon of the Day: Beware of the Russell 2000

Takeaway: The Russell 2000 small cap bubble is down -8% from its all-time #bubble top on 7/7.

Cartoon of the Day: Beware of the Russell 2000 - Russell 2000 cartoon 09.29.2014

Daily Trading Ranges

20 Proprietary Risk Ranges

Daily Trading Ranges is designed to help you understand where you’re buying and selling within the risk range and help you make better sales at the top end of the range and purchases at the low end.



Today RHP begins the process of redeeming the convertible notes that mature this Wednesday, October 1, 2014 as well as satisfying the derivative complex set-up to offset the dilution.  As result, the lower outstanding share count vs the Street should become more transparent.  


We reiterate our RHP – Best Ideas Long thesis as found in our Sept 18, 2014 note "RHP: RIDING THE GROUP HORSE TO HIGHER EARNINGS".  The majority of RHP’s revenues are from the group travel segment of the lodging industry.  We expect that segment to outperform sentiment over the next few years leading to higher EBITDA and FFO which should boost this undervalued stock.


  • The Convertible Notes were convertible through the close of business today (September 29, 2014) pursuant to the indenture.
  • Concurrent with the offering of the Convertible Notes, the Company entered into convertible note hedge transactions with respect to its common stock with counterparties affiliated with the initial purchasers of the Convertible Notes, for purposes of reducing the potential dilutive effect upon conversion of the Convertible Notes.
  • Today, (prior to the end of the current quarter), the Company will draw down $229 million (assuming no change since June 30, 2014) on its corporate credit facility (revolver) and hold the proceeds as “cash” as an asset on the balance sheet. 
  • On Wednesday, October 1, 2014 (Q4 2014), the Company will retire/payoff the Convertible Senior Notes with the "cash" (drawn off the revolver).
  • The equity share count should not increase materially despite the conversion due to the prior hedge transaction.


RHP is undervalued versus peers in our opinion.  Today, RHP trades at 11x 2015 EV/EBITDA versus the peer group average of 14x 2015.  RHP trades at a forecasted 2015 dividend yield of 5.5% versus 4.1% for peers.  Fair value for RHP is $66-68/share based on RHP reaching 13x EV/EBITDA valuation levels next year plus the current 4.7% current dividend yield (forecasted to increase significantly over the next six months).  Total return potential could exceed 40% over the next 12-18 months.


RHP is the REIT with the greatest exposure to the group segment which is where we see the most upside vis a vis Street expectation.  Thus, current earnings are likely to be exceeded and dividends raised.  RHP is undervalued versus its comp space and we see the potential for a total return of >40% over the next 12-18 months

Shares of Bloomin’ Brands Have Enormous Potential Upside Says Hedgeye’s Howard Penney| $BLMN

Retail - Department Store Deep Dive/Black Book

Takeaway: In this Black Book, we dive into everything from Dept Store current trends (survey) to what the group will look like in the next eco cycle.

Please join us Thursday, October 9th at 11:00 am ET for our Deep Dive on Department Store Fundamentals and Stocks. Relevant tickers: JCP, M, KSS, DDS, JWN, SHLD, TGT, WMT, TJX, and GPS.


Key Topics Will Include:

  1. What will the Department Store Landscape look like (physically and financially) when we transition into the next economic cycle?
  2. Detailed Revenue analysis for all the Department Stores – by category, consumer, and demographic.  Who has the most risk/upside based on where we are in the economic cycle?
  3. Margin Sustainability: Who has the most defendable margins and levers to pull in the event of a sales downturn?
  4. The importance of Financial Engineering to earnings algorithms.
  5. Current Business Trends: Results from our detailed 1,000 consumer survey. This is the 4th iteration of the survey that we started back in 3Q of 2013
    • Visitation statistics
    • and Mobile trends
    • Buy Online/Pick Up in Store – does anyone really use this? Which retailers have the competitive advantage?
    • Detailed category analysis – what retailers are top of mind in each category
    • Who wins on price, sales, selection, and quality.
  6. Real Estate Deep Dive
    • What does the competitive matrix look like across the space
    • Winners &  losers from a demographic and spending vantage point
    • Are department stores over or under-indexed to their target customer?
    • The JCP and SHLD affect – what do more store closures mean for other names in this space
  7. E-commerce – we’ll be releasing a much more in depth look at e-commerce across the retail space in a Black Book due out in the next couple of weeks – but we will preview that work with a focused look on the department store space. Most importantly which retailers have invested the capital needed to drive growth in this channel.

Call details to follow


Enter your email address to receive our newsletter of 5 trending market topics. VIEW SAMPLE

By joining our email marketing list you agree to receive marketing emails from Hedgeye. You may unsubscribe at any time by clicking the unsubscribe link in one of the emails.