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UA: Big Duration Mismatch


The fact that the stock is trading down on a beat and guide-up shows exactly why we don’t like the stock now. UA guided down gross margins materially. They’re making up for it in SG&A – which is puzzling given that they are an investment cycle. While we love UA on a TAIL (3-year) duration, the fact is that first it has to get past the TREND (3 month) and TRADE (3 weeks). We like it lower.  Overall, no change to our negative thesis (see yesterday’s note – reprinted at the end of this note).


What we liked:

  • UA posted solid top-line growth driven primarily by apparel revenues up +36% on top of 34% growth last year. The addition of charged cotton (we estimate between $20-$25mm, or 9-12% of growth) was a key driver in the quarter and one of several launches the company has planned in the coming quarters. Next in line for Q3 is Storm Fleece in September along with the latest basketball footwear for BTS. UA’s product pipeline is loaded and likely to keep top-line growth rates well above 30% near-term.
  • Direct-to-Consumer growth was up 80% accounting for 27% of sales in the quarter up from 23% in 2010. With gross margins in excess of 10pts higher than the company’s core, DTC will be a key offset to escalating margin pressures.
  • UA took up guidance by more than the Q2 beat – again. In fact, the incremental raise was greater than in Q1. The company beat top-line expectations by ~$20mm in each of the last two quarters. In Q1 it raised full-year guidance by $40mm, for Q2 the company increased guidance by another $50mm reflecting greater confidence in the 2H revenue numbers.

What we didn’t like:

  • Inventories remain an overhang near-term up +75% on +42% revenue growth. Yes, the company communicated that Q2 would mark peak inventory growth due to bringing its hats and accessories business in-house and planned build ahead of BTS, but you can’t ignore the underlying trend turning negative here. If we strip out these two factors in each of the last two quarters, the sales/inventory spread over the last four quarters would were down -7%, -10%, -9%, and then down -15% here in Q2 (see SIGMA below). The yy changes in both Receivables and Payables remain negative as well.
  • This is the second quarter in a row where the company beat on revenue, missed on gross margin, and then made up for it in SG&A. In fact, the company lowered its gross margin expectations for the year by an incremental 50-80bps from down -100bps to -150bps-to-180bps. As an offset, it also reduced the outlook for marketing expenses by 50-80bps. You can’t knock the company for leveraging expenses, but the outlook implies a reduction in the absolute dollar spend – something you don’t want to see for a company growing revenues at 30%+.
  • Embedded in lighter than expected Q2 gross margin results was the impact of increased sales allowances. While the company has an active product pipeline for the 2H, more aggressive sales allowances with inventories at peak heightens concern over the company’s ability to maintain margin levels in the 2H. With half of the adjustment to gross margin outlook from pricing and the other half sales allowances at the same time we’re entering a period where price variability remains high, so too does the possibility for further adjustments again next quarter.

With the changes to working capital still negative and margin risk and uncertainty increasing as we head into the 2H, we remain bearish on the name over the Intermediate-term TREND (3-months or more).


UA: Big Duration Mismatch - UA 7 26 11



07/25/11 02:39PM EDT



We don’t like UA around tomorrow’s print – either into it or out of it. Let me be crystal clear on duration…

TAIL (3 years): Luv you long time, UA. These guys are pulling one right out of Nike’s playbook. The growth profile is unquestionable to us. Though they have yet to get any ancilarry categories right – such as Women, Footwear, and International – they will. Of that, I am near certain. But that is also one of the reasons why the team and I don’t like this name on a TREND (3-month) duration.


TREND: The fact of the matter is that even through all the ebbs and flows of revenue, UA has been printing an operating margin of 10-11%. It could have easily been printing something in the mid-high teens. But no, instead it opted to plow the capital into the model to stimulate top line growth. I like that. But’s a double edged sword…

  1. On one hand , I am extremely confident in the top line trajectory. When Plank stands up there and says that the company will double in sales over 3-years, I believe him (and I’m a natural cynic).
  2. But the reality is that there have been several initiatives that simply have not panned out yet. Footwear has been a zero. Granted, the original structure of the company was insufficient for anything but failure in this category), and the current team will tread slowly (no pun intended). They probably won’t mess it up, but we’re very very close to the point where people won’t simply give the Gene McCarthy organization the benefit of the doubt. If footwear does not work, this company won’t double.
  3. Charged cotton was a good launch. Definitely better than footwear. But it was a shadow of its core performance product. This is not a savior for UA.
  4. UA is spending like a drunken sailor. That’s probably a bit dramatic. But with growth in retail stores accelerating, endorsing Michael Phelps, Lindsay Vonn, Kemba Walker, Derrick Williams (#2 NBA draft – ahead of Kemba at #9) and some dude named Tom Brady, the reality is that UA is in investment mode. They’ll play this like Nike in that they will make it work – but will spend more along the way to ensure their success.

If you have a 3-year+investment time horizon, then you have nothing to worry about. They’re doing the right thing.

But we’re paid to point out the potential landmines along the way.


With the stock at $78, 40x+ earnings, 16x+ EBITDA and very little controversy on the name, we’re simply wary – if not flat-out negative given that cash flow is headed the wrong way.



In preparation for the BYD Q2 earnings release tomorrow, we’ve put together the pertinent forward looking commentary from BYD’s Q1 earnings call and subsequent conferences/releases.



Acquisition of Imperial Palace Casino Resort Spa

  • “We plan to invest approximately $44 million in certain capital improvement projects over the next year.”
  • “The IP did produce approximately $41 million in EBITDA on an LTM basis through May of 2011. This is on par with our Delta Downs operation. However, we believe that the EBITDA potential of this property is even higher. Based on our preliminary diligence, we believe that there is a minimum of $5 million in synergies achievable in the first year.”
  • “We will initially be funding the transaction using a portion of the $560 million of availability we have under our credit facility. The non-extended portion of our credit facility matures in May of next year. To address that maturity and create the company’s desired liquidity, we will utilize availability under the extended portion of our credit facility, as well as execute approximately $300 million in capital market transactions.”
  • “I think the market in first quarter grew in the 2% range and we see it continuing...to grow slowly as the economy continues to grow.”
  • “These $5 million worth of synergies are ones that we can get early in the process and we are comfortable that we can achieve... I think we view this as kind of the minimum level of synergies because there are the opportunities... in terms of cross marketing, getting the benefit from being part of a larger company in terms of centralized services and things of that nature.”
  • “This property actually has grown EBITDA I think over the last 12 months quite dramatically, and they’ve seen some pretty good improvement in the EBITDA. Once again, some of that has been revenue growth, some of that has been efficiencies I think they’ve worked out of the property.”
  • “And I really think that, and part of the strategy behind this acquisition is, we can meaningfully grow IP’s market share by tapping it into the B Connected program because obviously our customers are visiting the Gulf Coast or spending time there or spending dollars and we just don’t have anything to provide them in that region.”
  • “Relative to our other properties in the region...we believe benefit the most is Treasure Chest. Folks that live in the New Orleans area frequent on a very regular basis, as a getaway, the Biloxi market, it’s only about 90 minutes away. And so it really gives us a really neat marketing opportunity between a very strong local property and kind of that regional destination.”
  • “The Shreveport market has been under significant pressure relative to market growth as a result of the continued expansion of Native American gaming in the state of Oklahoma. Oklahoma is clearly closer, and the tribes have built very substantial facilities to compete for that Dallas/Fort Worth metroplex customer. So, it is interesting to think that another license could be really successful in that market.”
  • “I think insurance will be one of the opportunities we have and that we’ve identified potentially once we get in and look at... to save money. So, I think relative to where they are today, there is probably a stepdown, and then ...insurance markets are kind of stable at this point, to slightly increasing. But there will be benefits, we believe, from them benefiting from a corporate-wide insurance program.”
  • [IP depreciation run-rate estimate] “We’re using $20 million.”
  • “In terms of the timing of the $44 million, it will be ...probably 10 or 12 months. In terms of the room product, the property has been going through an ongoing room renovation product, and so the rooms are in various stages of kind of renovation there. And the slot product, our preliminary review of the slot product is it’s current and we think it’s competitive for what’s in the marketplace, and don’t see the need for any significant capital dollars in the slot product.”
  • “This property is a clear number two in the market. And once again its physical plant is a clear number two, it’s very competitive with the Beau Rivage, and gets a similar customer type to the Beau Rivage. So, I think you could at look at the market and put these – the Beau Rivage, and the IP property – at the top of the market, and then tier down from there.”
  • “I think the ongoing maintenance requirements are probably $5 million to $8 million.”
  • “The extended credit facility is at LIBOR plus 350. The non-extended portion is LIBOR plus 1.625%. Our current blending rate at the company overall is right around 5%.”
  • “In terms of secured capacity, you have to remember, we get the benefit of the gain from Dania to count as EBITDA. So, covenants are not an issue at all with respect to this transaction and even absent, if you look at it without the Dania transaction, it’s still deleveraging from the perspective of secured covenants, so covenants are not an issue for us at this point."


Youtube from Q1 Conference Call

  • “The second quarter is off to a good start as well as our properties reported solid results in April. Our results for the first 4 months of this year give us confidence that we have reached a turning point. Based on these results, we expect to continue seeing year-over-year growth in our wholly-owned business through the remainder of the year….Most major shows in 2011 have reported solid growth from last year, and based on current bookings, we expect that trend to continue through the second quarter.”
  • “We took an important first step in this direction when we reached an agreement to sell Dania Jai-Alai for $80 million. This asset was no longer consistent with our current growth strategy, and by selling it, we raised a significant amount of capital that can be used to pay down debt and reduce our leverage. I’d also note that Dania represented a $4 million drag on our annual earnings. Between the elimination of this operating loss and reduced interest expense from the reduction of debt, we expect this transaction to be immediately accretive to earnings, adding about $0.06 annually to our earnings per share.”
    • “We have already received $5 million of the sales proceeds in the form of a non-refundable deposit. We expect to receive the remaining $75 million towards the end of September when the transaction is expected to close.”
  • “Though the promotional environment remains elevated, it is clear that the aggressive advertising and promotional campaign launched by our largest local’s competitor has not shifted guests away from our properties. Our customers continue to enjoy the exceptional customer service and compelling value offered by our brand.  So there will be enhanced marketing I think. As you enter the summer, it’s natural. I don’t think you’re going to see us react to that. We’re going to remain fairly disciplined on that front. If the current trends hold, we expect to show year-over-year growth in the Las Vegas Locals region in each of the remaining quarters in 2011.”
  • “Jet fuel prices are up sharply and fierce competition on Hawaiian air routes limits our ability to pass along these increases in the form of higher ticket prices. While increased costs will remain a factor, we are optimistic that positive trends will continue in the Downtown business in the second quarter.”
  • “Economic conditions in the Midwest are improving, and we expect Blue Chip and Paradise to post year-over-year growth in the quarters ahead.”
  • "We have started to see frequency improve at the high end of the database. I would say to you that spend per visit, is no worse than flat, and in some of our markets, including some of our properties in Las Vegas, spend per visit is starting to grow.”
  • “Borgata’s CapEx for the year would be about $40 million And then at Boyd, we indicated we expected our capital expenditure program for the year to be about $50 million.”
  • [Borgata table hold] “We think the 13% level is probably the right level for the next year or two, and it’ll eventually, I think, trend back up a little bit.”
  • [Leverage ratio after Dania] Secured leverage ratio will probably improve by about 60 basis points, and the total leverage ratio will probably by almost a full turn, 90 basis points.”

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Risk Ranger: SP500 Levels, Refreshed



We are long 2 S&P Sector ETFs (XLP and XLV). After covering our short position in the Financials (XLF), we do not currently have any S&P Sector shorts. What’s implied by our positioning is that we think the SP500 is setting up to rally, again, to another lower-YTD and lower-long-term high. 

  1. Long-term TAIL resistance = 1377
  2. Immediate-term TRADE resistance = 1353
  3. Intermediate-term TREND support = 1320 

What’s interesting here is that I have TRADE and TREND lines of support converging below the markets price. That’s bullish – and convergence like this in my model typically leads to a sharp rally to the upside.


Is there a catalyst for the Risk Ranger to register the high-end of the range in the chart below? Big time. A Debt Deal should be imminent. If Congress follows the polls, that is (Rasmussen just registered a New Low: 6% think Congress is doing a good job!). The Pain Trade is still up.



Keith R. McCullough
Chief Executive Officer


Risk Ranger: SP500 Levels, Refreshed - SPX






Economic Releases


Yesterday, it was reported that the Chicago Fed's national activity index indicates that the U.S. recovery has weakened considerably since April and is at risk of slipping further; improvement in the labor market has ground to a halt.  By contrast, the Texas Manufacturing Outlook was consistent with the weakness and uncertainty of the national economy on the one hand and the relative strength of Texas on the other.  In particular, the Employment outlook picked up significantly last month, which is consistent with our positive bias on JACK.





The smallest hay crop in more than 100 years is withering under a record drought in Texas, according to Bloomberg, boosting the cost of livestock feed for dairy farmers and beef producers across the nation.





Restaurant stocks continue to trade softly with the food, beverage and restaurant categories all trading down yesterday.






  • DPZ today announced 2Q EPS of $0.40 versus the Street at $0.36.  Domestic same-restaurant sales came in at +4.8% versus +3.0%.
  • SBUX Seattle’s Best Coffee cafes within Borders locations ceased operation late last week as close to 400 remaining bookstores across the country began liquidation sales over the weekend.
  • MCD is announcing plans today to provide a serving of fruit or vegetable with every Happy Meal sold in the U.S., according to the Chicago Tribune.
  • CBOU, PEET, and SBUX traded well yesterday ahead of the DNKN IPO tonight.  I published a note early this morning looking at the bubble in coffee stocks. 
  • COSI traded down 9.2% on accelerating volume.



  • DRI’s Red Lobster has launched a new national advertising campaign featuring the “real people of Red Lobster”, employees and others associated with the brand sharing “unscripted” stories about the concept.




Howard Penney

Managing Director


Rory Green


Tipping Points

This note was originally published at 8am on July 21, 2011. INVESTOR and RISK MANAGER SUBSCRIBERS have access to the EARLY LOOK (published by 8am every trading day) and PORTFOLIO IDEAS in real-time.

“There is an invisible tipping point. When we get there, it’s far too late.”

-Seth Klarman


I’ve used this quote from Baupost Group Chief, Seth Klarman, before. When he said it, he was alluding to America. In Europe, I think we’re there.  Some Tipping Points are invisible to many, but crystal clear to Mr. Macro Market. You just have to be humble enough to let him show you the way.


For all of you who got this right in 2008, you know exactly what I am talking about. The interconnectedness of Global Macro markets has been clear to you for quite some time now. Considering your portfolio risk from the narrow vantage point of one country and its credit risk is as obsolete as Keynesian Economics.


This systemic problem in our industry’s analytics was born in academia and now it thrives in government. These central planners of the world unite and focus on “risks” after they have been priced in. In doing so, they are blinded by what’s coming next.


Consider the #1 headline on Bloomberg this morning:




Gee, thanks.


Meanwhile, as these left leaning Europeans prepare for their 3 hour lunch in Brussels, the rest of the world’s interconnected risk continues to be priced on a tick.


From a Chaos Theorists perspective (an alternative to Keynesian dogma), the deepest simplicity that I can achieve in explaining how this works is watching every grain of sand (market data points - including Price, Volume, and Volatility signals) fall onto my screens – one by one. Unless you have a process to contextualize Tipping Points, how will you know which grain of sand will collapse the pile?


Hedgeye doesn’t have its feet on the floor earlier than any other firm we compete with for bailouts and giggles. We do it because someone needs to be awake every morning, watching the grains of sand.


This morning’s moves in Global Macro are a critical example of what I am ultimately trying to signal – timing:

  1. Intel (US equity market barometer) flags that margins are peaking last night at the close = US FUTURES DOWN
  2. China comes out with a brutal manufacturing PMI print of 48.8 in July (versus 50.1 in June) = ASIA DOWN
  3. Germany then hits the tape with an equally bad PMI print (versus expectations as China’s) = DAX DOWN

There’s obviously a lot of other things going on out there, but the principles of Chaos or Complexity Theory hinge on simplifying what factors have the largest impacts to the ecosystem you are analyzing. US Tech, China, and Germany are large factors.


There’s a difference between correlation and causality. The fundamental slowing of economic growth, globally, is causal to markets and the companies that operate within them. Whereas measuring the correlation between these Global Macro data points and market prices is trivial – if you have a process to absorb them:

  1. US Equities are going to re-test intermediate-term TREND line support (1319 SP500) this morning
  2. Chinese Equities had their biggest down day in 3 weeks, closing down -1% at 2765 on the Shanghai Composite
  3. German Equities are breaking their intermediate-term TREND line of 7198 on the DAX

What do any of these things have to do with Greece?


Exactly. Nothing. Greece is gone. Caput. Gonzo. Au-revoir.


Greek equities have crashed, twice, in the last 2 years and the Greek bond market is illiquid and dark. Europig politicians are not going to be able to do a damn thing to save Greece from themselves. Default and/or restructuring is the only way out.


So they may as well move to the crème brule in Brussels today and focus on what really matters to both the EU and the Euro – Germany’s economic slowdown and Spain/Italy bumping up against massive debt maturities in August and September (it’s July). Focusing on Greece today is far too late.


My immediate-term support and resistance ranges for Gold (we’re long), Oil (no position), and the SP500 are now $1572-1623, $95.47-99.08, and 1319-1341, respectively.


Best of luck out there today,



Keith R. McCullough
Chief Executive Officer


Tipping Points - Chart of the Day


Tipping Points - Virtual Portfolio

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