The sell side brushed off muted near term outlooks given by the suppliers on their last conference calls and now they are lowering estimates. Stocks are underperforming but do the next few quarters really matter?



Three issues for Q1 CY2010, the last of which should’ve been expected given the last conference call commentary:

  1. Alabama
  2. Weather – impacts gaming operations
  3. Replacements suck


So Goldman Sachs did a survey that indicated casinos were not accelerating replacement buying as much as he thought.  He lowered estimates on the “Big Three” and cut his sector rating and the rating on BYI and IGT.  Other analysts followed suit and cut estimates. 


The question we have is what took you so long?  It’s not like these companies were bullish about the near term.  Each management team made cautious comments about the March quarter:  WMS actually gave revenue guidance below the Street but analysts maintained their estimates and IGT was challenged for sandbagging but it's now apparent they were being realistic.  Bullish analysts were apparently blinded by, well, their bullishness.


Here are some thoughts about each of the Big Three:



  • We remain at $0.17 for FQ3 (March) while the Street has come down to $0.20.
  • IGT probably has more exposure to both the Alabama issue and the bad weather.  IGT’s market share in gaming operations is much higher than it is for slot sales so weaker play in the regional markets hurts them more than WMS or BYI.
  • Stock has been pretty weak lately but we still think IGT has company specific issues to contend with.  While their new products are solid, market share remains under pressure (FQ1 was awful) and the company remains over reliant on the “Wheel” games.



  • We are at $0.61, below the Street at $0.63.
  • Like IGT, BYI will take a hit from Alabama and to a lesser extent, the bad weather.
  • BYI is less reliant on slot sales so they may have a little more cushion.  However, software sales are very difficult to project.
  • At less than 15x our FY2011 (essentially forward 12 months) estimate of $2.68 the stock is beginning to look attractive.  Without a near-term catalyst, however, BYI could continue to trade off.
  • The real story is new markets, the potential for even more new markets (thanks to out of control state governments), and a bounce off trough replacement demand.  We think we are at the bottom of a five year bull cycle in earnings and stocks.



  • We remain at $0.47 vs. the Street consensus of $0.49.  We have a higher level of conviction in the March quarter for WMS than the other suppliers.
  • Alabama will not affect WMS.
  • WMS has the highest play per participation game of any of the three suppliers so they should be less impacted by the bad weather.
  • We expect WMS replacements in FQ3 to exceed that of FQ2.
  • WMS at $38.36 trades at only 16x our FY2011 estimate.  The stock could get cheaper as earnings expectations continue to fall.  Again, we think earnings will be fine.
  • The real story is new markets, the potential for even more new markets (thanks to out of control state governments), and a bounce off trough replacement demand.  We think we are at the bottom of a five year bull cycle in earnings and stocks.


Recent surprises in weaker home sales, new jobless claims (not including last week’s number) and declining consumer confidence have not been of any consequence to restaurant stock performance.  Along with retail sales in general, restaurant sales trends (primarily casual dining) continue to make sequential improvement.  Sales trends have improved across the board, but growth has been most evident in the chains that are better positioned competitively and appeal to higher end consumers.


The nearly two year decline in consumer credit has been a big contributor to lower customer counts in the casual dining sector.  The Government data posted on Friday suggest that the bulk of the contraction in credit is behind us.  While significant credit expansion is not likely any time in the immediate future, the current numbers are indicating that sales trends could be stabilizing.


A trend worth watching…


RESTAURANTS – CONSUMER CREDIT VS CASUAL DINING - knapp vs consumer credit outstanding Jan


RESTAURANTS – CONSUMER CREDIT VS CASUAL DINING - knapp vs consumer credit outstanding 2 yr Jan



Howard Penney

Managing Director


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Risk Management Time: SP500 Levels, Refreshed...

Hope is healthy (I do it every time I look into my baby girl’s eyes); but hope is not an investment process.


My macro model, which re-prices risk every 90 minutes, says anything north of 1138 in the SP500 is immediate term overbought (dotted red line in the chart below). At 1139 (where we just shorted the SP500 in the Virtual Portfolio) the market is up +7.8% from February 8th in as close to a straight line as you’ll see in a monthly data series.


In terms of Mr. Macro’s global interconnectedness, there is a mathematical reality that’s not ironic about February 8th. That was the day that the Athex Index in Greece put in her Freakout YTD low at 1806. Greek stocks are up more than 2x the SP500 (+15.3%) since.


While Selling Fear is easy for the Manic Media to do, getting bullish after markets run-up is even easier. Now is a good time to make sales and take advantage of its immediate term hope. Today’s employment data is explicitly hawkish. That’s why Treasury rates are busting a move higher (bonds lower). Bernanke can only pretend that he doesn’t see real-time economic data for so much longer before he has to remove the “extended and exceptional” language from the Fed’s currently compromised policy of zero percent American money.


In terms of lines of support, I think we could see a fast correction to 1113. You want to be buying/covering down there as the intermediate term TREND line of support (1106) that’s underpinning this market’s strength is real.


Have a nice weekend,



Keith R. McCullough
Chief Executive Officer


Risk Management Time: SP500 Levels, Refreshed...  - s p


The Week Ahead

The Economic Data calendar for the week of the 8th of March through the 12th 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 - cal1

The Week Ahead - cal2




German Factory Orders Surprise to Upside

Position: Short Spain via the etf EWP


German Factory Orders rocketed to the upside on an annual basis by 19.6% in January, yet it’s worth noting that the comparison is on -36.8% in January ’09, which marked the bottom in manufacturing orders (see chart below). On a 2-year monthly average the data shows an accelerating improvement from December (-10.45%) to January (-8.6%) versus November (-11.05%). The improving trend in 2009 was aided by government stimulus measures, including the country’s successful cash-for-clunkers program issued from January to September.  Comparisons will get more difficult as we move to the back half of the year.


Certainly on an annual compare the rise is less impressive and is much more in line with our longer term thesis that Germany’s heavy industrial and manufacturing exporting base will benefit from increased global demand this year, albeit as a slow churn higher.


The sequential move in orders of +4.3% versus a contraction of 1.6% in December is significant. Export orders rose 1.9% on the previous month with a 6% increase in demand coming from the Eurozone countries. Domestically, orders rose 7.1%.  


At times over the last two years we’ve had a long position in Germany via the etf EWG in our model portfolio. Currently our only position in Europe is short Spain (for a TRADE) to take advantage of a price action move to the upside in the etf EWP; however, our continued bearish outlook on the country due to such negative catalysts as massive unemployment, public and private debt leverage, and a failed housing market, remains.


The German economy is one that we continue to like because of its sober fiscal policy. Chancellor Merkel reaffirmed her conservative stance versus the debt issues associated with Greece today in a meeting with Greek PM George Papandreou.  Although we wouldn’t rule out intermediate-term assistance from the European community to fund Greece’s debt problems, the immediate term “clean-up-your-own-house” stance from Merkel sets a positive tone for the region.


The three times oversubscribed 5 Billion EUR Greek bond issuance yesterday—albeit with at a heavy premium rate of 6.25%--is an initial positive step, but we believe significant risks still remain, which we’ll continue to monitor real-time.  


Matthew Hedrick



German Factory Orders Surprise to Upside - GER


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