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USA Inc.

This note was originally published at 8am on January 30, 2015 for Hedgeye subscribers.

“We shall not cease from exploration, and the end of all our exploring will be to arrive where we started and know the place for the first time.” T. S. Eliot


Is the USA a good business? 

 

It’s the most fundamental question of all and one of ongoing import for both global capital suppliers and domestic residents as returns to capital increasingly accrue to foreign investors in the wake of decades of cumulative trade deficits and trillions in net capital inflows.  It’s also a topic for a different Early Look.  

 

Considering the “business of America”, however, leads to a question of equal import to Macro investors – and a relevant one alongside the release of the advance estimate of 4Q GDP this morning.    Specifically, does it make sense to model the Macroeconomy as you would a company?

 

Think of it this way:   Would you want to be long a company with accelerating topline, expanding margins and a competent management team while being underweight/short the converse?   No brainer, right.  

 

Conceptually, we view Macro investing in the same way.  In the context of our GIP (Growth/Inflation/Policy) model, we want to be long accelerating topline (GDP), expanding margins (decelerating Inflation) and competent management (policy effective in supporting sustainable growth). 

 

Q:  How do you model companies?...or put differently, how many companies that you follow reported earnings results on a QoQ annualized basis this quarter? …I’ll take the under on “one”.

 

How does the U.S. report/ measure GDP?  Officially QoQ, kinda….it depends

  • BEA: The BEA reports real GDP growth on a seasonally adjusted annual rate (SAAR) basis, but….
  • ....when they report longer run data they report it on a year-over-year basis using an average of the quarterly data
  • FOMC:  The Fed projections typically estimate growth on a Q4-over-Q4 basis
  • Consensus:  Consensus estimates are generally available for both QoQ and full year.  However, attempting to true up quarterly estimates with the full year growth estimate is typically a quixotic pursuit.   Fuzzy math and data collection/sample differences drive the delta and incongruity.   

Conveniently, all this variation lets both policy makers and pundits speak to whichever estimate best fits the narrative du jour and/or writes the best revisionist history.  Same goes for inflation measurement.  

 

We’ve found modeling growth on a year-over-year basis - and backtesting it against equity/sector/asset class performance – to be an effective approach.  It makes intuitive sense to us as well. 

 

Relatedly, how many countries report GDP principally on a year-over-year basis? …. Most.

 

As it relates to this morning’s 4Q14 growth data - Consensus is expecting +2.95% QoQ SAAR and the Fed’s GDPNow model is estimating +3.5%.  For illustrative purposes, if we simply split the difference and assume 3.2% for the quarter, full year growth for 2014 will be ~+2.4% YoY. 

 

So, inclusive of two ~+5.0% QoQ prints, we’re still essentially a 2% plus-or-minus economy.   We think 2% with cyclical oscillations above and below remains the right reflection of our intermediate term reality.  

 

The GDP table below provides a redux ahead of this morning’s data.  I’ll tweet out the updated table after the release (@HedgeyeUSA)

 

USA Inc. - GDP table

 

Yesterday’s Early Look explored the value of asking both a lot of questions and, importantly, the right questions in generating investing insight.  Given some of the (superficially) internal inconsistency in recent macro data it makes sense to extend that discussion.  

 

Consider yesterday’s Housing data:  

 

Pending Home Sales:  Pending Home Sales in December were pretty bad…..or pretty good

  • MoM:  On a month-over-month basis, PHS dropped the most in a year with seasonally-adjusted sales declining -3.7% sequentially .
  • YoY:  On a year-over-year basis both SA and NSA sales accelerated to their fastest rate of growth in 18 months.   Seasonally adjusted sales accelerated +220bps sequentially to +6.1% YoY while NSA sales accelerated to +8.5% YoY from +1.5% YoY in November.  So, from which rate of change metric should you take your cue?
  • Our take:  With Purchase Application accelerating sharply thus far into January, the preponderance of housing data improving as we traverse progressively easier comps, and PHM, DHI and RYL results reflecting positive momentum of late, we’re inclined to maintain our constructive view on housing.  

 

Household Formation vs Homeownership Rate -  A Tale of Two (or Three) Metrics:

  • Homeownership Rate:  Housing Vacancy and Homeownership data released from the Census Bureau yesterday showed the national homeownership rate declining to 64% to close out 2014- the lowest level since 1994.  Doesn’t sound too good, right?
  • Household Formation:  The same survey data showed household formation was en fuego in 4Q.  As can be seen in the Chart of the Day below, the CPS/HVS survey estimated that the total number of households grew by 2.0MM in December vs a year earlier, the largest yearly change since July 2005. On a rate of change basis, year-over-year growth accelerated to +1.4% in 4Q – up from 0.4% growth in the Jan-Sept period and the first material acceleration in 8 years. 
  • Headship Rate:  Rising household formation rates will show up in a rising Headship Rate.  The Headship Rate represents the percentage of adults who head households (Headship Rate = Households/Population) and is a more comprehensive measure than the homeownership rate.  It’s important to understand the distinction.   Definitionally, Households can be either  1. Owners or 2. Renters and the Homeownership Rate = Owners/Households.  Thus, similar to Unemployment Rate dynamics, the Homeownership Rate could ‘improve’ due to fundamentally negative developments.  For instance, if both the number of owners and the number of renters declines (an obvious negative for housing broadly) the homeownership rate could actually increase if the magnitude of decline in renters is larger than that for owners.   The Headship Rate is less ambiguous. 
  • Our Take:  Accelerating household formation and a retreat from peak in “basement dwelling” is a broad positive for the housing market.  Even if the balance of activity is occurring on the rental side – which it appears to be thus far – the broader recovery in headship rates will ultimately see flow through to single-family purchase activity. 

 

More broadly:  The preponderance of domestic macro data has been slowing from a rate of change perspective the last couple months (retail sales, durable/capital goods, ISM/PMI’s).  Less than 56% of SPX constituents have beaten topline estimates in 4Q thus far and less than a third of companies have registered sequential acceleration in revenue growth.   Corporate earnings estimates are sliding and revenue revision trends are almost universally negative alongside decelerating global growth and the ongoing energy price cratering.   

 

Does a modest deceleration in domestic growth matter for domestic assets in the face of the flood of global capital inflow and relative value reaching?  While the US may benefit broadly from the inflow, with the long bond (TLT) up +7.9% YTD vs. -1.83% for the SPX, its seems that capital deluge is, indeed, discerning. 

 

The YTD performance divergences across equity sectors are equally large…and the year is young.  Performance chases price, particularly in the immediate term, and with the fundamentals rightly supporting deflation leverage and defensive yield flows, we think what has been working continues to work.   

 

Our immediate-term Global Macro Risk Ranges are now:

 

UST 10yr Yield 1.70-1.82%
SPX 1993-2035

Nikkei 17406-17929

VIX 16.61-21.98
USD 92.63-96.11
WTI Oil 43.22-46.26

Gold 1247-1287 

 

Re-think. Re-work. Reward. 

 

Christian B. Drake

U.S. Macro Analyst

 

USA Inc. - HH formation



BYD 4Q 2014 CONFERENCE CALL NOTES

Takeaway: BYD completes the regional gaming beat cycle for Q4. Margin improvement is a welcome change.

CONF CALL

  • Made meaningful progress in 4Q
  • Gaming and non-gaming growth in LV Locals business
  • Revenue growth remains modest
  • LV Locals:  non-gaming was very strong.  Hotel revenues grew more than 13%, driven by higher room rates. F&B grew as well.
  • Downtown:  Visitation from Hawaii remain strong
  • Regionals:  stabilizing trends in 3Q continued into 4Q
    • Kansas Star:  rev and EBITDA grew.  Op margins grew 65bps YoY to nearly 44%. Positive trends have continued into January.
    • Delta Downs:  +15% EBITDA growth in Q4. EBITDA growth continued into December even with entrance of Golden Nugget. +4.5% gaming revenue growth for January. Cautiously optimistic.
    • Blue Chip:  increased market share by 80bps; grew admissions by 8%.  Strong non-gaming (hotel/spa/entertainment) driving strong growth in visitation esp from Chicago area.
  • Borgota: quarterly record in slot win, table win, poker and GGR. Hotel rev grew 6% in 4Q. Have kept Water Club open for 17 additional days in 2014 (generating an additional 9,500 occupied room nights)
  • Borgata online:  generated $2M in EBITDA in 4Q
  • Going forward, debt reduction remain a priority 
  • By end of 1Q, will complete 400 rooms of SunCoast. Next up:  1,000 rooms at Orleans, more than 400 rooms at the IP and nearly 200 rooms at Blue Chip.
  • In 4Q, opened bar at SunCoast and California noodle house in downtown LV
  • Earmarked $45m to reposition non-gaming (multi-year program)
    • 11 more projects planned in 2015
  • Continue to evaluate REIT option
  • 4Q capex; invested $55mm ($11m Peninsula)
    • 2014 capex: $140m (Boyd/Peninsula)
  • 7m Borgata capex (2014: $19M)
  • Maintenance capex budget: Boyd ($100m), Peninsula ($15m), total: $160m

2015 guidance

  • 2015 capex spend to be slightly higher YoY
  • Borgata capex: $40m ($25m maintenance, $15m property enhancement)
  • D&A: $210-215m  ($140-145m - Boyd, $70m Peninsula)
  • Borgata D&A: $60m
  • Interest expense: $225m (assume no refi)
    • $155m - Boyd, $70m - Peninsula
  • Borgata interest expense: $60-70m
  • Corporate expense: $65m -reflects incremental spending in IT, business analaytics, and marketing
  • Deferred rent: $4m
  • Pre-opening expense: $10m
  • Share-based compensation: $12m
  • 112m- share count
  • LV Locals:  +2-3% EBITDA growth
  • Downtown: flat EBITDA
  • Midwest/South:  flat EBITDA
  • Peninsula: +2-3% EBITDA growth
  • Borgata: $155/160m EBITDA
    • Assume increased real estate tax rate

1Q 2015 guidance

  • LV Locals and Downtown on a combined basis flat YoY
  • Midwest/South/Peninsula: +2-3% EBITDA growth
    • Borgata: $30-35m

Q & A

  • Margin improvement:  have put in several cost initiatives and more effcient marketing costs....getting tougher and tougher to find improvement in margins
  • Downtown Las Vegas ADR:  largely driven by Hawaiian packages (60-65%) which are pre-priced.  Have some ability to drive rate but not significant since not much cash rooms. Visitation on Fremont Street have increased.
  • AC tax settlement:  $88m (agreement's been extended. Have 60 days to create a plan by emergency manager.) Fully expect to get that $88m.
  • Want to find profitable promotions.  Low-end database (casual gamer) certainly more sensitive to promotions
  • New acquisition opportunities:  LV Locals, Pennsylvania
  • Rio Rancho deal in Sacramento progressing as scheduled
  • Low gas price boost? Generally, have a halo effect but it's difficult to tell whether consumers will spend more money on gaming
  • Spent a couple of million on REIT proposal in 2014
  • Unwilling to call a 'trend' at this point
  • 4Q Corporate expense:  timing related expenses 
  • Louisiana affected by low oil?  Not expect tremendous risk from Houston area. Robust economy in Lake Charles area ($9bn infrastructure developments, offsetting some of the energy decline)
  • Asset impairment:  multiple assets from portfolio
  • Want to combine Boyd and Peninsula debt but want to be ready
  • Borgata online:  mostly variable cost; could generate $3-5m EBITDA in 2015.

NKE - Flash Call Friday Morning 8:30 am ET

Takeaway: Please join us for a 'Flash Call' at 8:30 am ET where we will review our thoughts on the NKE CFO announcement.

Given the high level of interest we’re getting after this evening’s announcement from Nike about CFO Don Blair retiring, we’ll be hosting a Flash Call Friday morning at 8:30am ET to review our thoughts. We’ll have 5-10 minutes of prepared remarks, will take another 10 min of Q&A, and will be done well before nine o’clock.

 

Participant Instructions:

Dial in number:

Conference code/password: 13601867

 

02/12/15 05:39 PM EST

NKE - CFO RETIREMENT = NEGATIVE DEVELOPMENT

 

 Takeaway: This is a bad event. The business is absolutely fine – no issues there. But Blair is as good as they come. Stay away for now.

 

There’s no sugar-coating this announcement from Nike that CFO Don Blair is retiring. We’ve always said that there’s only one person we’d be worried about leaving Nike, and that is Don.  The reason is that aside from having tremendous credibility with the investment community, Don has served as a critical bridge for Mark Parker (CEO) into the world of cost management, capital deployment, and ROIC – which is key for a CEO who is otherwise (brilliantly) focused on brand, design, and the consumer. 

 

To be clear, we’re pretty certain that this is not a sign of an impending blow up. Business at Nike is fine, and he is leaving while he’s on top. In fact, to his credit, Don would absolutely not leave if the company was trending in the wrong direction – and he’ll be there until October 31 of this year. Anyone looking for a blowup during that time period will be disappointed.

 

Andy Campion is perfectly appropriate as a CFO for Nike, Inc. – but as much as people will argue that serving as CFO of the Nike Brand prepared him for this job, we’d say that there is a massive difference between being the CFO of a subsidiary (albeit a huge one) and being the outward-facing CFO of a company that's in the top 10% of the S&P 500. Even Don Blair had an extremely painful initial 2-3 years while he navigated through the confusing internal forecasting process inside Nike. The fact is that Don is one of the best CFOs that I (McGough) have known in 22 years.

 

The learning curve for his successor will be steep. And keep in mind that Don fought hard (and won) serious clout for the Finance organization in a company that is traditionally Brand and Marketing-driven. With Don no longer as the anchor, we think we’re likely to see more political tussles internally – potentially for a few years – while the new regime is established.

 

We’re taking Nike from our Long list to our ‘Bench’ until we get more comfort in organizational structure. If we were looking at an 18 multiple, we’d hang in there. But at 23x, we’d rather wait. 


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NKE - CFO Retirement = Negative Development

Takeaway: This is a bad event. The business is absolutely fine – no issues there. But Blair is as good as they come. Stay away for now.

There’s no sugar-coating this announcement from Nike that CFO Don Blair is retiring. We’ve always said that there’s only one person we’d be worried about leaving Nike, and that is Don.  The reason is that aside from having tremendous credibility with the investment community, Don has served as a critical bridge for Mark Parker (CEO) into the world of cost management, capital deployment, and ROIC – which is key for a CEO who is otherwise (brilliantly) focused on brand, design, and the consumer.  

 

To be clear, we’re pretty certain that this is not a sign of an impending blow up. Business at Nike is fine, and he is leaving while he’s on top. In fact, to his credit, Don would absolutely not leave if the company was trending in the wrong direction – and he’ll be there until October 31 of this year. Anyone looking for a blowup during that time period will be disappointed.

 

Andy Campion is perfectly appropriate as a CFO for Nike, Inc. – but as much as people will argue that serving as CFO of the Nike Brand prepared him for this job, we’d say that there is a massive difference between being the CFO of a subsidiary (albeit a huge one) and being the outward-facing CFO of a company that's in the top 10% of the S&P 500. Even Don Blair had an extremely painful initial 2-3 years while he navigated through the confusing internal forecasting process inside Nike. The fact is that Don is one of the best CFOs that I (McGough) have known in 22 years.

 

The learning curve for his successor will be steep. And keep in mind that Don fought hard (and won) serious clout for the Finance organization in a company that is traditionally Brand and Marketing-driven. With Don no longer as the anchor, we think we’re likely to see more political tussles internally – potentially for a few years – while the new regime is established.

 

We’re taking Nike from our Long list to our ‘Bench’ until we get more comfort in organizational structure. If we were looking at an 18 multiple, we’d hang in there. But at 23x, we’d rather wait. 


HEDGEYE INSIGHT: Quick Take on Nike's New SNKRS App | $NKE

Editor's note: This is a complimentary research excerpt from Hedgeye retail analysts Brian McGough and Alec Richards. Click here for more information on our services for individuals.

*  *  *  *  *  *  *

HEDGEYE INSIGHT: Quick Take on Nike's New SNKRS App  | $NKE - nk1

 

Takeaway: There is a lot going on with this new Nike SNKRS app. The takeaway right up front is that it makes buying shoes easier on a mobile device. That's obviously bad news for traditional retailers like Foot Locker (FL), Hibbett Sports (HIBB), Finish Line (FINL), etc. We haven't seen this type of technology before but it makes sense given Nike's push into the direct business.

 

A couple additional nuances worth mentioning…

  1. Everything purchased on the app ships for free. The free shipping threshold on nike.com sits at $75. As we were typing this it made sense to us because this is a sneaker-head app which will probably not feature any styles under the current hurdle rate, but it’s a solid piece that the marketing department can use. We think that Nike moving to free shipping across the board is a 12-18 month development.
  2. The app will curate specific styles that fit the consumers taste. That's cool, but we think the more important feature is the limited/new release notifications. Limited releases are a big driver for the likes of FL. Nike now has a way of communicating with its target consumers directly about these releases.

HEDGEYE INSIGHT: Quick Take on Nike's New SNKRS App  | $NKE - nke


CAKE: A Troubled Concept

Takeaway: Despite strong industry trends, restaurant stocks are not immune to looming cost pressures.

CAKE delivered one of the worst prints we’ve ever seen out of them, missing top line and bottom lines estimates by 177 bps and 2025 bps, respectively.  Comps also disappointed, coming in at +1.4% vs the +1.9% consensus estimate.  After reading the press release, and seeing the massive level of margin deterioration, we didn’t think it could get much worse – and then the earnings call started. 

 

CAKE: A Troubled Concept - chart1

 

CAKE: A Troubled Concept - chart2

 

COST PRESSURES

Management’s commentary on food and labor inflation was critical on a couple of levels: 1) CAKE will be hard pressed to grow margins in 2015 and 2) this is awful news for the small and weak players in the industry. 

 

To the first point, CAKE’s food cost pressures in 2014 were widely recognized due to higher dairy and seafood prices.  But the degree to which this line de-levered over the course of the year was astounding.  Management conceded that it is considering supplementing its contracting with direct hedging, but to what extent this will help is unknown.  While many expected CAKE to be one of the largest beneficiaries of the retreat in dairy prices, beef and, to a lesser extent, chicken are expected to drive 2-3% commodity inflation in 2015.  They will have a very difficult time leveraging this line further without delivering a 2%+ comp, a feat they haven’t accomplished in over two years.

 

CAKE: A Troubled Concept - chart3

 

Labor inflation was a much less publicized issue throughout the year that the company mainly attributed to unusually high group medical claims.  This pressure, however, is expected to continue in 2015 and could be compounded by minimum wage increases in select states across the nation.  All in, management expects $10-12 million in wage inflation.  We wrote in a bearish Black Book last January that the margin story was over for CAKE and it certainly appears to be.  They haven’t driven labor leverage since 1Q13 and probably won’t anytime soon.

 

CAKE: A Troubled Concept - chart4

 

To the second point, and we’ll have more on this in a later post, the pressure CAKE is seeing is not limited to them.  If a well-established player in the casual dining industry is struggling to control these costs, what does that mean for smaller, rapidly expanding players in the industry?  They’re going to feel a bigger impact – and it’s not going to be pretty.  Minimum wages increasing and the restaurant job environment is improving.  It’s getting increasingly difficult and expensive to retain employees – an issue that, just today, Panera referred to as the “war for talent.”  In the coming days, we’ll unveil a list of companies that we believe will have a much more difficult time operating in this environment than consensus expects.  And, yes, we’d short all of them.

 

ANEMIC TRAFFIC GROWTH

“Holiday 2013 was the first in which many traditional bricks and mortar retailers experienced in-store foot traffic give way to online shopping in a major way.”

-Howard Schultz, Chairman/President/CEO/Founder

 

Howard Schultz made this remark last year on his company’s 1Q14 earnings call – and we think it’s spot on.  If it’s not, CAKE’s traffic isn’t doing much to suggest so.  Traffic declined -1.2% in 4Q14, marking the ninth consecutive quarter of negative traffic.  Management insists it’s not related to the secular decline in mall traffic but, if that’s the case, they need to prove it.  The traffic and margin decline we’re seeing suggests this company is operating a broken model and, if it’s to be fixed, it will take significant time and investment.

 

CAKE: A Troubled Concept - chart5

 

UPSHOT

CAKE guided FY15 EPS to a range of $2.08-2.20 on 1.5-2.5% comp growth, a far cry from the current $2.42 consensus estimate.  If they want to hit this range, they’ll need to deliver strong comp growth and, with limited drivers in place, we’re not sure how they do that.  Speaking to the lack of incremental leverage in the business model, management actually admitted that it needs to either develop or acquire a growth concept in order to deliver long-term EPS growth in the mid-teens.  And you probably already know how we feel about multi-concept operators.  This brand is in trouble and, if it weren’t down 10% today, we’d short it.  In fact, if it bounces meaningfully, we’d likely jump at the opportunity.

 


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